There Is A Divergence Between Stocks And Bonds. Here's Why It Matters.

This means that investors may well be able to play defense once again if the dance between stocks and bonds begins to shift-and that will make it easier for them to make proper investments.

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There has been a lockstep relationship between the price movement of stocks and bonds for a long time now. As bond yields rise, the price of these bonds falls, and this is exactly what happened last year when bond yields climbed. From the S&P 500’sSPX, +0.67%  peak of early January 2022 down to its early October bear market low, 10-year Treasury yields TMUBMUSD10Y +2.27%  almost doubled, depressing both stocks and bonds. The SPDR S&P 500 ETFSPY +0.64%  (SPY) dropped 18% with dividends reinvested, whereas the iShares 20+ Year Treasury Bond ETFTLT –0.98%  (TLT) fell 31%.

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Stocks are still correlated with bonds and they have been for a long time, but they are now starting to shift. As stocks have been falling in recent weeks, bond yields have also fallen, resulting in rising bond prices, even though stocks have been declining. Several barometers, such as the S&P 500, are down just a hair from their closes on March 9 and March 10, when the issues with banks first broke. As a result of this decrease, the 10-year yield has fallen from almost 4% to just under 3.5% in that time period.

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That's for a good reason, and there's a good reason behind it. The market is reflecting the fact that if the banking crises continue, it is likely to have an adverse effect on the economy, and as a consequence, on the earnings of corporations as well. Because of this, many market participants are selling stocks that are perceived to be riskier, as they rush into government bonds for safety, marking a classic time when the market takes a risk-off. 

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Julian Emanuel, the Evercore strategist, wrote "The recent systemic events have changed the dynamics, and for now we are back to seeing risk on and risk off as our primary strategy."

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The stock and bond correlation itself can also be used as a way to observe how the markets are performing as another way of looking at them. There was a significant increase in the correlation between the price of the S&P 500 Index and the price of the iShares 20+ Year Treasury Bond ETF, according to DataTrek, in the past year. Currently, the correlation between bond and stock prices is showing that the two are moving in opposite directions one after another now. 

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"It is possible that stocks and long-term bonds will begin to decouple at this point," the analysts at Trade Algo wrote. 

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The risks associated with stocks are increasing, but bonds should be able to perform their historic function of providing safety, despite the risks that they face. What more could we possibly want?