Can we at last, after decades of drift, neglect, and excess, put our fiscal house in order…can we…adopt a plan that will compel the Federal Government to end the dangerous addiction to deficit spending and finally live within its means?
– President Ronald Reagan, Address to the Nation, April 24, 1985
Investors may have felt themselves in April to have been immersed in a Dickensian drama characterized by the immortal lines, “It was the best of times. It was the worst of times.” Barrons celebrated the month with its headlining “S&P 500 on Pace for Longest Winning Streak Since 2004.” Fortune, choosing to walk on the less sunny side of the street, began its story, looking further back to January 20th, “Stock market retreat in Trump’s first 100 days is among the worst start for a president in almost a century.” The conflicted view of the stock market may be explained by investors’ roller coaster ride that month. From its March 31st close to its intraday low on April 21st the S&P declined 9.8%, then rallied through the month’s end 9.0%, settling for a -1.2% decline. Small Cap stocks continued to serve as mirror images of Foreign Developed Markets returning -4.2% and +4.3% respectively.
The MOVE index is to the bond market what the VIX is to the stock market; a measure of the volatility of what the index is measuring. For bonds that would be the extent of the rise and fall of interest rates. A surrogate of The MOVE Index, the CBOE 20+ Year Treasury Bond ETF Index, tracks the volatility of the price of US Treasury bonds with maturities of twenty or more years. We follow the latter as it is available without cost in the public domain while the MOVE index is not. An interesting correlation exists between the CBOE index and stock market returns. Since March of 2023 that index has reached and exceeded a level of 22 five times, most recently on April 7th of this year. Had you, the savvy investor that you are, purchased at the market open the following day an index tracking the S&P 500 you would have earned in the following ninety days an average return of 8.6%. Doing so on April 7th would have returned a tidy 9% by month’s end. Perhaps more interesting though is not the reality but the reason for this occurrence.
The quote from President Reagan was from words spoken in 1985 and so it should be acknowledged that the burden of proof lies on those suggesting why its current level of $37 trillion in contrast to $1.75 trillion ($3 trillion inflation adjusted) in 1985 should concern us. We’ll cite two consequences of its current level to support our “time to worry” thesis. First is the maturity of the new debt being issued. Historically, the treasury issued bills with a maturity of one year or less to obtain 20% of its required financing. In the second half of the fiscal year ending September 30, 2024, it was 50%. The reason is because the treasury cannot issue the required amount of longer maturity debt without the interest rate on that debt rising; evidence that the supply of that debt now exceeds the demand for it. Second, is that in 2024 foreign central banks were sellers of $300 billion of US treasuries and purchasers of $700 billion of gold suggesting diminishing confidence in our government debt’s capacity to serve as a means of preserving the value of capital and a possible explanation for gold’s 58% rise in price in the past three years.
While the stock market was declining almost 10% in April the interest rate on 10 Year US Treasury notes rose ½% from the 4th to the 11th demonstrating the quandary is Trump Administration is facing. The top 10% of US households pay 75% of income taxes and own 93% of US stocks. Increasingly, the income taxes paid by that 10% are a result of capital gain realization. Policies leading to lower stock prices result in lower tax revenue, higher budget deficits and a greater risk of treasury market volatility. It is not coincidental that as treasury market volatility rose the president “cooled” his rhetoric on tariffs. The administration is committed to lower budget deficits but how does it get there with lower stock prices? Round #1 may be ending but it may be wise not to underestimate the administration’s commitment to addressing our federal debt challenges. Round #2 may be more interesting still.
50/50 portfolios returned 1.85% for the month and 4.35% year to date. Equities modest 0.2% declines for the month were more than offset with modest positive returns on fixed income and appreciably greater positive returns on equity risk hedges including equity market volatility, variable rate securities and precious metals.
Mark H. Tekamp