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๐ต Bonds and Stocks: The Tale of Two Markets ๐ต
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Most retail investors only pay attention to stocks. Smart money looks at bonds before stocks.
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Why? Because the bond market is where big institutions (think: big banks, pension funds, hedge funds) place bets on future growth, inflation, and economic policy.
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Stocks usually react after bonds move.
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๐ก The Main Idea
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๐ Bonds price the future. Stocks price the story.
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๐ Key Bond Signals to Watch
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1) Interest Rates Direction (Growth Signal)
- Falling bond yields = economy slowing
- Rising bond yields = economy strengthening or inflation risk
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Stock impact
- Falling yields โ good for tech & growth stocks
- Rising yields โ pressure on expensive stocks (high valuation)
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2) The Yield Curve (Recession Warning Indicator)
This compares short-term rates to long-term rates.
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Inverted curve (1 yr bond yield > 10 yr bond yield):
- History says recession risk is rising
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Curve steepening after inversion:
- Often happens before stock market bottoms
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Stock impact
- Inversion โ be cautious, favor quality stocks
- Post-inversion steepening โ get ready to buy risk-on assets again
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3) Real Yields (Valuation Meter)
Real yields = bond yields after inflation.
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Why it matters
- Real yields are the true discount rate for stocks (present value of future cash flow)
- Especially important for AI, tech, and growth stocks
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Rule of thumb
- Rising real yields = stock valuations under pressure
- Falling real yields = stocks get breathing room
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4) Credit Spreads (Risk Appetite Check)
Credit spreads show whether lenders are confident or nervous.
- Tight spreads = risk-on (confident)
- Widening spreads = risk-off (nervous)
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Key insight
Stock selloffs WITHOUT widening credit spreads are often buying opportunities.
Stock rallies WHILE credit spreads widen are usually traps.
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Actionable Tips:
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๐ข Best Setup for Stocks:
- Bond yields falling
- Credit spreads stable or tightening
- Favor: tech, growth, higher-beta stocks (aka higher volatility)
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๐ก Mixed Environment:
- Bond yields rising
- Credit spreads tight
- Favor: cyclicals, industrials, financial stocks
- Avoid: speculative growth stocks
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๐ Danger Zone:
- Bond yields rising
- Credit spreads widening
- Reduce risk
- Favor: energy, commodities, stocks with strong balance sheets
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๐ด Recession Setup:
- Bond yields falling fast
- Credit spreads widening
- Assume defensive posture (energy, healthcare, gold/silver)
- Have some cash ready on-hand to 'buy-the-dip' (only quality stocks)
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P.S. Here's more info on the relationship between stocks and bonds.
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