Traditional market trends are broken and it’ll only get worse, strategist warns

Key Points
  • Bond yields creep higher this year but equity markets have also risen.
  • This suggests that the usual inverse correlation between them is becoming blurred.
  • Tuesday's State of the Union speech could send the dollar lower.
TD Securities: Bearish view on the US dollar

Traditional correlations in global financial markets have become so broken that this fragmentation has become a new normal for investors, a strategist told CNBC Monday.

This year has seen bond yields creep higher once more on expectations of higher interest rates and a pickup in inflation. But equity markets have also risen, meaning that the usual inverse correlation between bond yields and equities is becoming blurred.

"I think you are going to see correlations continue to kind of break down or maybe not be as solid as they've been," Richard Kelly, head of global strategy at TD Securities, said.

"We can look at the same thing in the dollar and commodities where those correlations aren't as strong as they've been," he added.

Usually, commodity prices also move inversely to the dollar. The latter has depreciated over the last few months as other central banks across the world start to relax on their stimulus measures. This trend was also prevalent last year with Citi analysts argued in March that the inverse relationship between dollar strength and the price of commodities was gone.

"This relationship broke down in late 2016 and the breakdown looks here to stay," analysts said.

According to Kelly, it's difficult to predict what's going to happen in markets as a result of these broken relationships and it all depends on what the main driver is at the time.

"When it's simply economic growth, those (market) correlations can be better, when it's politics and that side of things those (market) correlations tend to break down," he said.

On Monday, the U.S. dollar was recovering some ground, helped by strong domestic data in the previous session, after six straight weeks of losses. The currency has been under pressure following comments from the U.S. administration last week that a weak dollar could be beneficial for exports, casting doubts over a commitment towards a strong dollar.

Market players will be watching President Donald Trump's State of the Union speech Tuesday — an event that could push the dollar lower.

"We have the State of the Union this week, if we get a lot of protectionist sentiment that might be weakening for the dollar," Kelly said.