Upbeat Jobs Report Puts Firm Bid under High-Yield Sector

The old saying “just what the doctor ordered” came to mind when the prevailing uncertainties surrounding Brexit, the elections, negative interest rates, deflationary pressures and wild currency price swings were confronted last week with a key data point that has come in much better than expected. Friday’s non-farm payroll report showing the economy added 265,000 jobs as compared to consensus estimates of 170,000 put to rest the notion that the domestic economy was at risk of falling into a pending recession. The U.S. equity and bond markets have been the de facto safe haven for global fund flows and the employment numbers just demonstrated that more capital flows into dollar-based assets are forthcoming.

One solid endorsement of this newfound conviction of investor sentiment is the fresh 2016 high for the junk bond market. Shares of the iShares iBoxx $ High Yield Corporate Bond ETF (HYG) and the SPDR Barclays High Yield Bond ETF (JNK) give all fixed income sectors that warm and fuzzy feeling that there is a major catch-up rally in riskier assets to the levels of Treasuries and investment grade debt in the making. It’s already evident in many closed-end funds, business development companies and hybrid real estate investment trusts (REITs) that have sorely lagged sectors with BBB+ to AAA- credit ratings.

In light of the improved outlook for lower-rated credits, professional fund managers are not abandoning their huge gains in the Treasury markets. Yields on the 10-year and 30-year Treasuries actually traded lower in Friday’s session, wherein the Dow vaulted higher by over 200 points by noon at the NYSE. The benchmark 10-year T-Note yield is at a record low of 1.37% and the 30-yr T-Bond yield is also plumbing a new post-WWII low of 2.10%. Evidently, one decent jobs report does not make for a trend. The chart below of the 30-year T-Bond goes back only 20 years, but the trend is decidedly down and can only make one wonder: what’s it going to take to reverse the trend?

My take is that a series of data points that surpass economists’ forecasts is the path by which bond yields will reverse course. Additional help would come from a reduction in geopolitical and domestic terrorism and random acts of violence, which unfortunately have become all-too-common headlines of late. The market hates uncertainty about economic conditions, and we saw some of that apprehension removed on Friday. However, the market also hates social instability in the largest and most powerful nation and economy in the world. The potential upheaval in the European Union (EU), saddled with fresh fissures in the social fabric of the United States, will keep the “safety trade” on for the foreseeable future.

From a purely financial point of view, global monetary policy hasn’t changed one iota, which keeps tremendous amounts of freshly minted euros, yen, yuan and other currencies flowing from hopped-up central bank stimulus programs clamoring for long-date sovereign securities like bees on honey. Yes, the S&P is back up over 2,100 and challenging the old intraday high of 2,137. But don’t count on a continued market rise until earnings season gives the bull camp something more tangible to sink its collective teeth into. With that said, the junk bond market historically precedes the direction of the stock market. If past is prologue, then we could be headed for the summer of stock market love.

Every trading desk around the world has buy stops set at the 2,137 level for the S&P 500. If those buy stops are penetrated to the upside, it will set off a powerful rally fueled by algorithmic buy programs, revised higher equity weightings by investment houses and a swath of broad short covering by professionals and hedge funds. Market leadership will remain in the best-of-breed blue chips if and when the S&P breaks out. The strategy to best ride that breakout would be to have exposure to the heavyweight names in the form of utilizing a custom “bull call spread” strategy like the one that I’ve crafted in this past week’s inaugural launch of Instant Income Trader, where I recommend buying LEAPS (Long-Term Equity AnticiPation Securities), which are long-dated in-the-money call options that mature out to two years. I also advise about selling short-term out-of-the-money calls to generate a robust income stream that ties up just a fraction of the money otherwise required to buy stocks that trade over $100 per share.

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In case you missed it, I encourage you to read my e-letter column from last week about how you can find value with a tactical options strategy. I also invite you to comment in the space provided below my commentary.