Forget about stability–bond fears driving stocks lower again

Here we go again.

After a pause that raised hopes that the slide in U.S. stocks was over, today the sell off has resumed. As of 3:30 p.m. New York time, the Dow Jones Industrial Average was lower by 2.53%, or 629 points, to 24,264. The S&P 500 stock index was down 2.59%, or 60.3 points, to 2612.

The driver today seems similar to the driver in the first stage of this retreat: fears that higher yields in the bond market will translate into higher interest rates that will cut into economic and earnings growth. The yield on the 10-year Treasury is up 2 basis points today to 2.85%, the highest in four years, and a reversal of the drop in yields we saw when stocks were falling hardest. Then a flight to safety in Treasuries had pushed up bond prices and pushed down yields.

We’re not seeing kind of huge 100% plus surge in volatility–as measured by the VIX (the CBOE S&P 500 Volatility Index)–today that we saw on Friday and Monday. The VIX is up a relatively restrained (for this index) 14.35% today to 31.71. That is likely to be an indicator that the frantic unwinding of pre-February 2 bets that volatility would continue to fall is starting to taper off after horrendous damage to hedge funds and other vehicles that had taken the low volatility bet.

The most interesting–which doesn’t mean good–news today comes from the CBOE FedWatch measure of market sentiment on the next interest rate move by the Federal Reserve. Thinking in the Fed Funds Futures market after Monday’s plunge was that weakness in the stock market would made it less likely that the Fed would raise interest rates at its March 21 meeting.

Today, with the market selling off again, the FedWatch indicator isn’t showing anything like that same bet. The odds for an interest rate increase at the March meeting have actually climbed today to 77.5% from 76.1% yesterday. That moves the odds back close to the 78.9% shown on February 1 before the market meltdown.

On February 5 I posted that I thought we might need to see a test of the 200-day moving average on the S&P 500–then at 2538–before we know whether we’d see buy on the dip behavior. With the S&P 500 at 2612 as I write this, the market looks like it’s still moving toward that test.