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Monthly Market Report: Monitoring Yield Spreads and S&P 500 Performance

Your objective is to prepare a market report, focusing on the dynamics of the US Treasury Yield Spread and S&P 500 Equity Index data from 1990 to the present.


Prerequisites

Module: Interest Rates | Monitoring Yield Spreads

Financial Books: Normal, Inverted, and Humped Interest Rate Curve

Lectures: Historical Time Series Data & Interest Rate Shocks | US Treasury Rates & Yield Curve | US Treasury Yield Spread


The report should be structured over 4 pages and it should consist of the following:


Page 1: 10Y3M Yield Spread and S&P 500 Performance

Present individual profiles of the securities shown in the provided chart. This page should include market commentary. The commentary should focus on the US Treasury 10Y-3M Yield Spread and the S&P 500 Equity Rolling Maximum Loss. These are crucial indicators of the difference between long-term and short-term interest rates and cumulative stress loss performance, respectively. Discuss the current spread and price levels, their historical fluctuations and extremes (high/low), and what these factors suggest for taking a position on the spread/bond(s) and/or equity index.


for SnP 500 Index data, use yFinance Python library.


Page 2: 10Y3M Yield Spread: Normal and Inversions

Feature a table detailing the minimum yield spread. The yield spread is calculated using the formula:


10Y3M Yield Spread = 10Y US Treasury Rate - 3M US Treasury Rate.


The table should be clearly visible, represent normals/inversions for each month from 1990 to the present, and include information such as the date of the maximum and minimum yield spread, and their respective values.


Page 3: S&P 500 Performance: Cumulative Losses

Include a table illustrating the minimum cumulative loss of the S&P 500. The table should represent cumulative losses for each month from 1990 to the present, and provide information about the date and value of the maximum cumulative loss.


Page 4: S&P 500 Performance: Maximum Drawdown

Include a table illustrating the maximum drawdown. This table should indicate the maximum drawdown levels for each month from 1990 to the present, and provide information about the date and value of the maximum drawdown.


General Guidelines:

Each table and chart must be clearly labeled and easy to read. The report should be last updated on the current date. Include a relevant chart of the US Treasury 10Y-3M Yield Spread and the S&P 500 Equity Market Index. Discuss the dynamics of the US Treasury Yield Spread & S&P 500 Equity Market, and provide the commentaries.



Market Report: US Treasury Yield Spread & S&P 500 Equity Market Dynamics

Updated on 2023-09-19 US Treasury 10Y-3M Spread The US Treasury 10Y-3M spread is a crucial indicator of the difference between long-term and short-term interest rates. It is widely used as an indicator to study curve inversion levels. A 10Y-3M spread that approaches 0 signifies a 'flattening' yield curve. Furthermore, a negative 10Y-3M spread has historically been viewed as a predictor of a recessionary period. It has predicted every recession from 1990 to 2023, but has occurred 6 to 24 months before the recession occuring, and is thus seen as a far-leading indicator. The Fed uses the spread in a model to predict recessions 6 - 24 months ahead. As of 2023-09-19, the current spread stands at -117 basis points. It has historically oscillated between a maximum of 387 basis points on 1992-05-04, and a minimum of -189 basis points on 2023-06-01. The current spread level of -117 basis points falls below the long-term mean-reversion level, indicating a potential signal, and suggests taking LONG position on USD10Y3M spread.


When a trader anticipates that the spread (in this case, the 10Y3M yield spread) is significantly below its long-term mean and expects it to increase, the trader might consider taking a "long position" on the spread itself, not on any specific bond. A "long position" in this context means that the trader is betting that the spread will increase. To take a long position on the spread, the trader can use various financial instruments, such as derivatives or spread trading strategies. The goal is to profit from the anticipated rise in the spread.

10Y3M Yield Spread and S&P 500 Performance

Note: A positive yield spread (10Y > 3M) indicates that long-term interest rates are higher than short-term interest rates, while a negative yield spread (10Y < 3M) indicates that short-term interest rates are higher than long-term rates. S&P 500 Equity Market Index The Standard and Poor's 500, or simply the S&P 500, is a stock market index tracking the stock performance of 500 of the largest companies listed on stock exchanges in the United States. It is one of the most commonly followed equity indices. As of 2023-09-19, the current price stands at 4443.95. During the period from 1990 to 2023, it reached its highest at 4796.56 on 2022-01-03 and its lowest at 295.46 on 1990-10-11. Over the period, the index hit its highest return at 11.58% on 2008-10-13 and its lowest return at -11.98% on 2020-03-16, experienced a cumulative loss of -52.58% on 2009-05-19 with the maximum drawdown in the S&P 500 during the same period was -56.78%.

Note: The period runs from 1990 to 2023, totaling 8494 business days.


Consolidated Market Report As of 2023-09-19, the US Treasury 10Y-3M spread stands at -117 basis points, well below its long-term mean-reversion level of 159 basis points. This negative spread, which differentiates the long-term from short-term interest rates, has historically foreshadowed economic downturns, typically forecasting recessions 6 to 24 months in advance. Given that the spread reached its lowest at -189 basis points recently on 2023-06-01, and juxtaposed with the S&P 500's performance - peaking at 4796.56 in 2022 and dipping as low as 295.46 in 1990, the current market scenario suggests heightened caution. The equity market, while robust in its recent performance with the S&P 500 priced at 4443.95, might be poised for a re-evaluation in the face of these leading indicators. Investors might consider re-strategizing their positions, especially with the spread signaling a potential long stance on the USD10Y3M.

Note: The figure considers the US Treasury 10Y3M rates spread, expressed in percentage, and the time-series of the S&P 500 prices. The period runs from 1990-01-02 to 2023-09-19, totaling 8494 business days. If required, the missing rates with maturities are calibrated using an appropriate yield curve construction model with 30/360 day count convention. Disclaimer: Please note that this information is for educational purpose only and does not constitute financial advice.


Page 2: 10Y3M Yield Spread: Normal and Inversions

Feature a table detailing the minimum yield spread. The yield spread is calculated using the formula:


10Y3M Yield Spread = 10Y US Treasury Rate - 3M US Treasury Rate.


The table should be clearly visible, represent normals/inversions for each month from 1990 to the present, and include information such as the date of the maximum and minimum yield spread, and their respective values.


Page 3: S&P 500 Performance: Cumulative Losses

Include a table illustrating the minimum cumulative loss of the S&P 500. The table should represent cumulative losses for each month from 1990 to the present, and provide information about the date and value of the maximum cumulative loss.

S&P 500 Performance: Cumulative Losses

Page 4: S&P 500 Performance: Maximum Drawdown

Include a table illustrating the maximum drawdown. This table should indicate the maximum drawdown levels for each month from 1990 to the present, and provide information about the date and value of the maximum drawdown.

S&P 500 Performance: Maximum Drawdown

Additional Requirements:

The analysis exhibits an interesting correlation between the US Treasury 10Y-3M Yield Spread and the S&P 500 Equity Market Index. Historically, periods of yield spread inversion have often been associated with specific patterns in the equity market. When the yield spread inverts, it has historically been regarded as a leading indicator of an impending economic downturn. The equity market's reaction to such occurrences has typically been mixed, with heightened uncertainty leading to increased market volatility. Yield spread inversions have the potential to influence investor sentiment and decision-making. During inversion periods, risk-averse investors may adopt a cautious approach, leading to reduced appetite for equities and potential shifts towards safer assets.

  • Correlation Analysis: Calculate the correlation coefficient between the yield spread (e.g., US Treasury 10Y-3M yield spread) and the equity index (e.g., S&P 500). A positive correlation indicates that both move in the same direction, while a negative correlation suggests an inverse relationship. This can give insights into how changes in the yield spread relate to movements in the equity market.

  • Cross-Correlation and Lag Analysis: Examine cross-correlation between the yield spread and equity index at different time lags. This analysis can reveal any time delays or lead-lag relationships between changes in the yield spread and subsequent movements in the equity market.

  • Volatility Analysis:Analyze the volatility of both the yield spread and equity index over the same time frame. High volatility in the yield spread during periods of equity market uncertainty might indicate heightened market sensitivity to interest rate changes.

  • Rolling Regression Analysis: Conduct a rolling regression between the yield spread and equity index returns over time. This analysis can help identify any time-varying relationships between the two variables and how they might evolve during different market conditions.

  • Regime Switching Models: Employ regime-switching models to identify distinct market regimes characterized by different relationships between the yield spread and equity index. This analysis can uncover shifts in the relationship during various market phases.

  • Granger Causality Test: Perform Granger causality tests to assess whether the yield spread "Granger causes" changes in the equity index or vice versa. This can help identify whether one variable can predict movements in the other.

  • Event Study Analysis: Conduct an event study analysis to examine how significant macroeconomic events, such as changes in central bank policies or economic indicators, impact both the yield spread and equity market.

  • Rolling Correlation and Moving Averages: Calculate rolling correlations between the yield spread and equity index returns using moving windows of data. This can reveal short-term and long-term relationships between the two variables.

  • Divergence Analysis: Analyze periods of divergence between the yield spread and equity index movements. Investigate the potential reasons behind such divergence and how the market may react in such situations.

  • Frequency Domain Analysis: Apply frequency domain analysis (e.g., wavelet analysis) to understand the cyclical patterns and harmonics between the yield spread and equity index. These calculations can offer valuable insights into the relationship between the yield spread and the equity index and provide a more comprehensive understanding of how changes in interest rates impact the stock market. Remember that financial analysis is often iterative, and combining multiple methods can provide a more robust view of the dynamics between these two critical variables.

 

Team Collaboration and Selection Requirement:

for this project, candidates have the flexibility to choose their mode of operation:


Standalone Mode: If you feel confident and would like to take on the challenge individually, you're welcome to work on the project as a standalone participant. This will give you an opportunity to showcase your individual strengths and decision-making skills.


Team Collaboration: Alternatively, if you believe that collaboration will enhance the quality and depth of your analysis, you are encouraged to form a team. Collaborative efforts often bring diverse perspectives, leading to richer insights and more comprehensive results.

  • Self-Selection: Candidates are free to select their own teammates. If you already have someone in mind, align with them, and inform the project coordinator of your team composition.

  • Team Size: While there's no strict limit, we recommend teams of 2-3 members for effective collaboration and equitable distribution of work.

  • Commitment Agreement: Ensure that all members of the team are equally committed to the project.

Please note: Whether you choose to work individually or in a team, the assessment criteria will remain consistent. The emphasis will be on the depth of analysis, quality of insights, and presentation of findings.

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