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Investors seek safety in bonds, alarming U.S. markets that a recession may be in the offing

The Dow, S&P 500 and Nasdaq extend their month-long retreat amid U.S.-China trade worries

Traders Gregory Rowe, left, and John Panin work the floor of the New York Stock Exchange on Wednesday. U.S. markets are off to a weak start, led by drops in technology and health care companies. (Richard Drew/AP)
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U.S. markets extended their month-long retreat Wednesday as investors accelerated their flight from equities for the relative safety of bonds, reflecting concerns that the U.S.-China trade scuffle has settled into trench warfare.

The Dow Jones industrial average, which declined 409 points at its low, is headed for its sixth-consecutive week of losses. It finished Wednesday down 221 points, or 0.87 percent, to close at 25,126. The big drags were Johnson & Johnson, Nike, Boeing and Cisco. Only three of the 30 blue chips finished positive: Dow Chemical, Intel and UnitedHeatlth.

The Standard & Poor’s 500 index dropped 19 points, or 0.69 percent. All 11 sectors fell into the red. The technology-laden Nasdaq Composite fell 60 points, or 0.80 percent, closing at 7,547.

Both the Dow and the S&P 500 are down 5 percent in May, and the Nasdaq is down 7 percent.

Asian markets closed mostly down, with the Shanghai Composite up 0.16 percent. Japan’s Nikkei slid 1.2 percent, and the Hong Kong Hang Seng tumbled 0.57 percent. Europe is more vulnerable than the United States to global economic pressures, and it showed, with all red arrows. France’s CAC 40 led the slide at a 170 percent drop.

Recent market angst is centering on the yield on the closely watched U.S. 10-year Treasury, which hit a 20-month low Wednesday and fell below the yield on the three-month Treasury bill. When prices increase, yields drop and vice versa. The reversal, known as the inverted yield curve, is a fairly consistent — but not absolute — warning of a recession.

The 10-year Treasury yield ripples across the economy, affecting mortgage rates, credit card debt and more.

“The bond market is frightening the stock market with the death spiral in yields setting off alarm bells for investors as an inverted yield curve says a recession is near,” according to a note published Wednesday by Chris Rupkey, chief financial economist at MUFG.

The storm is occurring even as the U.S. economy roars ahead with record unemployment, low interest rates, healthy corporate earnings, wage growth and above-average economic growth. The back and forth of economic threats between China and the United States has increased during the past several weeks, erasing stock market gains and creating uncertainty among companies and consumers who fret about prices, supplies and exports.

“There’s increased uncertainty with international trade conditions,” said Adam Grealish, director of investing at Betterment. “This can spur investors to buy safer Treasurys as opposed to riskier assets like stocks. With these expansion-related fears rate cuts are perceived to be more likely, which is reflected in lower yields further out in maturity.”

U.S. stocks had been on a roll coming into May because of the strong economy. But external forces detoured the markets as anticipation of a U.S.-China trade deal evaporated. The Federal Reserve had also signaled that it probably will not raise interest rates this year, feeding more disappointment. But some Treasury investors are now wagering that the Fed will eventually lower interest rates to perhaps near zero to reignite the economy. The desire to gain a potential higher rate of return is spurring the current flight into bonds.

“There is a higher probability of recession than there has been in the past several years, including fairly weak global growth and a fiscal drag because of federal budget issues,” said Scott Mather, chief investment officer for U.S. core strategies at PIMCO. “The 10-year at these levels, 2.20 or 2.25, is an insurance policy that pays you to wait for the next fed funds cut.”

The United States is at war on several economic fronts. Companies began complying last week with a White House order to curb sales to Chinese telecom giant Huawei, sending U.S. technology stocks sharply lower and signaling what is likely to be widespread fallout that will hurt not only one of China’s most important companies but also suppliers in the United States and consumers around the globe.

With $105 billion in global sales last year, Huawei has customers and suppliers on nearly every continent.

The United States finds itself in a dangerous war of wills with Iran over U.S. sanctions against that country over its nuclear program and the belief that Iran is a supporter of terrorism. The Trump administration dispatched an aircraft carrier, bombers and other military equipment to the Persian Gulf region this month.

China upped the stakes in the trade war recently when its flagship Communist Party newspaper hinted that Beijing may cut key, rare earth exports that are essential components to a host of U.S. tech products, including smartphones and electric vehicles.

Bloomberg recently reported that a trade war could erase $600 billion from the global economy in 2021.

”The U.S. 10-year bond yield has been going down since Nov. 8,” said Ed Yardeni, president of Yardeni Research. “Even back then, there was concern about the U.S.-China trade war. But there was also concern over what the Fed would do. The market is now increasingly saying that the Fed is going to lower interest rates, particularly if the trade war between the U.S. and China escalates.”

Yardeni added that even with U.S. bond rates lower, they are still attractive around the globe as Europe and Japan go to zero or even negative interest rates.

“The U.S. bond market has stood out as being the one with the highest yields,” Yardeni said. “Here we are at 2.22 percent, and the yield is still more attractive than the near-zero bonds in Europe and Japan.”

The potential slowdown in the world economy unnerved commodities. The price of copper, viewed as an indicator of global economic health, was down more than 1 percent on worries of a slowdown.

Oil prices were having a rough week and a difficult day. Benchmark West Texas Intermediate was trading at around $59 per barrel, a drop of 0.40 percent on the day. Brent crude was trading around $68 per barrel, down over 1 percent.

“Once again, it’s the escalating trade war that is spooking the market in general and is particularly bad for commodities and crude oil, in particular,” said John Kilduff of Again Capital.