Global central bankers have their big boy pants on and are starting to raise interest rates to counteract inflation.
But the bond market has been raising interest rates all year. The central bankers are waaaay behind the curve.
The chart above show the Dow Jones Corporate Bond Index. It has been in a major bear market since the beginning of the year. Junk bonds, not shown, have been hammered even more!
This is very bearish for the stock market for two reasons.
The first is that this is a very significant increase in the borrowing costs for companies. Over the last several years, corporations have been borrowing at a record pace and now have more debt on their balance sheets than at any time in history. So companies are going to be hit hard with this increase in their costs. Combine that with the increases in costs from inflation and wage hikes and we are at the beginning of a profit compression cycle.
The second major reason is that many investors switch from bonds to stocks and vice versa. The higher interest rates will be a competitor to investors buying decisions. Lately, they have been buying high dividend stocks and I think that will continue but more and more money will go into short term bonds including corporate bonds.
The final reason is that, over the long run, stocks are worth the discounted present value of future cash flows. The discounting factor is usually Treasury notes but I think corporate bonds are better. So higher yields mean that the future cash flows are discount at a higher rates and are therefore worth less. Thus a lower stock market.
So here is my current scenario.
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