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GRAVITY KICKS IN
S&P vs Bond Yield Regressions, Citigroup
Bond markets are trying to do the job the Fed won’t.
I want you to disregard last week’s NFP data, which was overly disappointing with over 100k jobs missed from the consensus.
The reason is that Warsh has now explicitly told us that he’s more worried about price stability (inflation) rather than the labor market.
Because the Fed won’t hike rates or tighten policy to control inflation, bond vigilantes are sending global yields higher.
The 30-year and the 10-year specifically.
In fact, a Citigroup study proves that every time the 10-year bond yield rises above 5.0% it tends to have a heavier weight on the future S&P 500 returns via negative correlations.
Today’s market mechanism applies further pressure to this situation:
The S&P now trades at an “official” P/E multiple of ~30.0x
Adjusting for the fact that half of S&P earnings are now in non-cash items, this ratio could quickly be adjusted to ~60.0x
Even if we keep the official ratio, it means the S&P offers a (1 / 30 = 3.33%) yield.
Compared to these bond yields of >5%, stocks are fundamentally riskier than in previous cycles.
Inflation being at 3.7% as of the most recent PCE also doesn’t help.
To boil the setup down to a specific opportunity…
The only way the S&P continues to rally from here is ultimately the bond market’s responsibility
Statistically that is.
Fundamentally, rising bond yields could break the AI capex plumbing as FCF falls to negative for most of the big spenders and forces heavier interest burdens on them, ultimately raising the risk of a capex slowdown altogether.
I will cover this macro shift closer as it continues to develop.
Now let’s get an update on what the market likes and dislikes:
The market reached a new all-time high this week, but it’s not as healthy as perhaps the last V-shaped recovery from the Iran war breakout.
Back in the first quarter of 2026, the momentum and value factors spiked right along the market, confirming broader participation and a healthy rally to be sustained.
Right now, this V-shaped recovery wasn’t supported by any of the factors that used to carry those recoveries.
The way the S&P futures tape traded, it’s clear that very little business is being done at these new highs.
Again, very different compared to the number of transactions that took place on the Iran recovery and all-time highs.
There’s still a good chance momentum will make a comeback this week, or for the opposite case (breadth) to sustain its upward momentum.
However,
As I pointed out above, we would need a proper bond rally to support that continuation via lower yields.
As far as investment opportunities go…
I still favor the selective momentum in AI I’ve pitched last week, and even more so the HALO real economy rotation that the Offside Portfolio is focused on.
CHART OF THE DAY
You know how critical I am of the AI trade and the underlying accounting red flags that are happening there.
However,
You can’t beat the market by ignoring history’s biggest bubbles.
So I’ve decided to add a few AI names to the Offside Portfolio last week.
Even then, the trade is structured as a balance of longs and shorts.
The reason?
We’re not in the clear just yet.
ARE YOU COVERED? —>
SMH vs VIX, Thinkorswim
I broke down how important it is for the SMH ETF (semis) to break above the previous 50% retracement in its first wave lower.
So far, it’s struggling to do so…
This long/short play will allow you to profit whether semis are able to break out beyond this level,
Or fail and continue to make lower lows.
IMPORTANT GAUGES
Commitment of Traders Update, Offside Capital
The only thing managers agreed on last week is to reduce S&P exposure.
Both hedge funds and prime brokers (leveraged money) and pension/mutual fund managers decided cash is a better place to be in for the moment.
Not in a major way,
But definitely a sign outlooks and risk preferences may have shifted away from wanting a good chunk of S&P in their portfolios.
I suspect this is due to the themes I broke down today:
Bond yields shifting the mechanics behind the S&P entirely
Factor performance is absent, leaving the market to fend for itself
In other words,
Concentration and leverage is the name of the game right now.
These fundamental participants are obviously not comfortable with that.
Should growth/momentum return this week, you can scratch this thought off your mind and return to business as usual.
Now let’s cover some items for this coming week:
New Earnings:
A loaded week for both the AI trade and the Offside Portfolio.
On Holdings (ONON) and CAVA Group (CAVA) report this week on the same day, before and after the bell respectively.
I will aim to cover them individually and update members on my decision-making process for their renewed theses and place in the portfolio.
In terms of the AI trade,
We have Supermicro Computer (SMCI), Coherent (COHR), Nebius (NBIS), Coreweave (CRWV) and Cerebras (CBRS.)
To be honest with you, the workload is too much this week to cover every single one of these names.
But,
I will determine which of these earnings has the most impact on the overall AI thesis, and select that report to break down for you as an update to what’s happening in the broader space.
Wednesday - CPI Inflation:
Inflation has been trending higher, uncomfortably above the Fed’s preferred target of 2%.
As I’ve explained today, the bond market is attempting to tackle the problem at the roots.
Recap my GDP breakdown to understand how inflation won’t be fixed until financing conditions place enough of a headwind on AI capex.
Probably a sustained CPI level this week, so watch bond markets closely from it.
Thursday - PPI Inflation:
Business input cost inflation will supplement consumer inflation next.
The view is very similar to the CPI issue above, where AI investments - and Iran to a certain extent - continues to draw down available inventories and clog supply chains to raise prices paid by businesses across the economy.
I will break down the items driving most of this inflation and how it ties down to the market themes that are being tracked this month.
Friday - Retail Sales:
Retail Sales Tracker, Offside Capital
The consumer is still divided in a K-shaped divergence
A divergence I expect will continue to show up in the retail sales data, with growth centered around the non-defensive products of the economy and lackluster reactions showing a further contraction in the defensive (noncyclical) items of the consumer space.
This tracker will be updated accordingly once the data is out this week.
Stay tuned.
A Final Note
COMING UP NEXT (Reminder for This Week)
The famous “dispersion” trade has now expanded well beyond normal cyclicality, raising the tail risk for a potential VIX breakout.
Seasonality would also suggest a volatility event should come about in the second half of the year, with sustained high VIX readings.
Some coverage on the topic will be delivered to you this week, with other juicy stuff in the works as well.
I feel like this video is relevant after everything we’ve covered today in terms of market valuations, bond risk premiums, and a broader lack of participation in this recent V-shaped recovery.
Here’s Mohnish Pabrai with his view on markets and value investing:
Until next time,
OFFSIDE RESEARCH
Against the Tape, Ahead of the Curve.