Through the Looking Glass

Posted on April 3, 2020 by Gemmer Asset

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Over the past week, my five-year-old daughter and I have been reading through Lewis Carol’s “Alice’s Adventures in Wonderland.” We just started chapter five – where Alice stumbles upon the caterpillar who asks “Who are you?.” Alice replies:


“ I–I hardly know, sir, just at present– at least I know who I was when I got up this morning, but I think I must have been changed several times since then.”


This line pretty much sums up the past month… in more ways than one. The fallout from the spread of the virus has caused everyday life to turn into something we don’t fully recognize. There seems to be a new normal every hour.


We thought it would be interesting to take a look at various investment relationships that have dramatically changed over the past few weeks and caused us to wonder if we’ve followed Alice down the rabbit hole.


Stock & Bond Correlations


In normal times, stocks and bonds tend to move in opposite directions (this isn’t a prefect relationship and there are certainly exceptions). In times of crisis and or extreme volatility these correlations (how things move together) can be thrown out of whack. Take a look at the correlation of the Vanguard Total Stock Market ETF and the Vanguard Total Bond Market ETF:



The red area of the chart shows when stocks and bonds had a negative correlation. As you can see, on March 12th the relationship changed in a dramatic way. Essentially overnight, the two asset classes changed from being negatively correlated to having a strong positive correlation.


What caused this? In short, if it wasn’t cash it was being sold. Even treasuries were being liquidated en masse. All this selling caused downward pressure on safe haven assets as well as stocks.


30 Year Mortgage Spreads

The dramatic drop in interest rates over this year has affected all sorts of financial relationships. One such dynamic has been the movement of mortgage rates. The chart below shows the average 30-year mortgage rate in the US vs the 10-year treasury yield (both in the top panel). The bottom panel shows the spread between the two.



For most of 2019 mortgage rates followed the 10 year lower. However, since the beginning of March treasury rates have plummeted and mortgage rates have ticked higher, bringing the spread between the two close to an all-time high. Why? It’s anyone’s guess, but one reason may be demand for refinancing.



The above chart shows that the week over week increase in mortgage refinances is the highest it’s been since the financial crisis. The combination of near zero treasury rates and incredibly high demand for loans may be causing the banks to make the determination that they don’t need to lower rates to entice people to refinance.


Jobless Claims


The fallout from the virus pandemic has been widespread and severe. Nowhere is that more evident than in labor market figures. The chart below shows weekly initial jobless claims (individuals filing for unemployment for the first time).



This increase dwarfs any level in the data series’ 53-year history. The scale of this increase is such that it makes the ’08 financial crisis look like a small blip.




This one is obvious even to the non-investor. Equity market volatility has skyrocketed ever since the spread of the virus.



The VIX, a commonly used measure of market volatility, peaked on March 16th at 82.69 when the S&P 500 lost -12% in a day. This level was higher than the peak of the financial crisis.


Here’s a way to put that VIX number in the context of daily returns. The table below shows the daily percentage change of the S&P 500 since the beginning of March. The right most column is the absolute value of that change.



The S&P 500 has moved on average 4.93% per day since March 2nd! And there has been only one day where it moved less than 1%! These are simply unbelievable numbers.


Brick and Mortar Retail


The slow demise of physical retail stores didn’t need any help. Temporary closures of many non-essential stores will likely speed up this dynamic. While this isn’t an investment datapoint, it certainly has economic ramifications. The chart below shows an index compiled by a company that mounts censors to entrances of retail stores across the country to monitor foot traffic.



Traffic in these stores is down -98% from this week last year. It makes sense given all the store closures, but -98%?!! The retail space is in for a challenging year to say the least.


The Fed


From the start of this crisis the Fed seems to have grasped the seriousness of the potential economic fallout. They’ve used just about every tool in their toolkit, from dropping rates to zero and QE Infinity to easing capital requirements for banks and establishing new loan programs (see last week’s Market Recap for more details). The list goes on. Here are a couple charts that illustrate just how fast monetary policy has changed in a few short weeks.


Fed Funds Rate



What a drop. The Fed acted without hesitation in lowering rates. You can say a lot of things about the Central Bank, but you can’t say they drug their feet.


Fed Balance Sheet



Up until about September of 2019, the Fed’s balance sheet was shrinking. Now, in a matter of a few weeks, the total amount of securities held has gone up by roughly $1.5 trillion. That’s an increase of +38% since the end of February and it’s only going higher!


Six months ago if you were to tell the average investor that on April 3rd of 2020, stock and bond correlations are significantly positive, 30 year mortgage spreads sit at all-time highs, initial jobless claims are nearly 10 times higher than the previous record, the Fed funds rate is at zero and the S&P 500 changes by about +/-5% per day… “impossible!” they’d say. Well, impossible dynamics seem to be popping up on a daily basis at this point.


In writing this post, I can’t help but think of Lewis Carroll’s other book, “Through the Looking-Glass, and What Alice Found There.” In chapter 5, Alice is talking with the queen about not believing impossible things. The Queen replies:


“Why, sometimes I’ve believed as many as six impossible things before breakfast.”





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