Saturday, February 7, 2015

The Message of Treasuries

This is my first post in three weeks and it will be a shorter commentary than most.  Equities have been dealing with some major issues which have been creating considerable volatility:

1.  Oil prices
2. Events in the Eurozone, particularly Greece
3. Concern a stronger US Dollar will have on earnings 
4. Ongoing disinflationary and deflationary pressures in the global economy.

The stock market tends to be a much more emotional market than the global bond and currency markets.  What I mean is that one may glean much better directional signals for stocks by watching currencies and bonds.  These two markets are the "dog that wags the tail (stocks)".  And it's these two markets, particularly bonds, which I'm going to focus on in this brief commentary.

But first, here's where US stocks are as measured by the S&P 500:


(click on chart for larger image)

I've highlighted the widely identified triple bottom everyone is talking about as well as what is looking like a triple top (thick purple dashed line) that repelled the S&P on Friday, February 6th (blue arrow).  We're clearly in a trading range but what's notable is that the S&P 400 Mid cap Index made a new all time high on Thursday, February 5th and Small Caps as measured by the Russell 2000 and the S&P 600 Small Cap Index are outperforming their large cap brethren in the S&P 500.  This is a sign of internal market strength and a reflection of the market's perception that large caps, most of which have international exposure, will be negatively impacted to some extent by a stronger US Dollar.

There has been much concern and market volatility over Greece and the new leftist government under Alexis Tsipras and their avowed pledge to gain debt relief from the EU and ECB.  The situation is rather complex and I won't get into the fundamentals other than to say that if Greece thinks it's having a tough time now in the EU, they should consider that they will be far worse off if they ever left the union.  But this is all a moot point because they're not leaving.  At least that's what the US Treasury market is telling us with this week's price action.  Yields spiked this week with some good US economic numbers and if there was truly a serious probability of Greece upsetting the global economy "apple cart", the "flight to safety trade" would have prevented the spike;


(click on chart for larger image)

The daily chart above details the yield on the Ten Year US Treasury Note and it gives a history of the Ten Year yield going back to 2008.  As can be seen, yields are still at historic lows for reasons I've articulated many times in past commentaries but my point is that the spike in yield highlighted above with the black arrow tells me there's no fear over any issues related to Greece.  If things get dangerous over there you will see this yield and all yields along the Treasury yield curve drop like a rock.  Then you can start worrying!

I've detailed in previous commentaries how the US Treasury yield curve has been flattening which is usually predictive of weaker economic growth and in looking at the chart below that trend is still intact.  But this week's yield action (black arrows) might be an early indicator that this might be changing.  This is a chart of the Ten Year Yield (green line) and the Two Year Yield (red line):


(click on chart for larger image)

Analysis

The Treasury market is telling us there is no fear in the global financial system.  The bounce we got in oil prices over the past week has helped to stabilize equities as disinflationary trends have been mitigated (at least for now).  

Inter market relationships are by no means definitive at this point as certain markets are moving according to their respective supply/demand fundamentals (oil), while Gold is more in inverse "lockstep" with the US Dollar.  Stocks and the US Dollar have been generally positively correlated for some months now which is signalling a continuation of normalcy: the value of a nation's currency is in direct proportion to it's economic and financial health.

If someone had asked me a week ago where stocks were headed I would have told them that there was a good chance we were lining up for a serious correction.  But the Treasury market and the charts above tell me that is not in the cards.  Still, there will need to be a catalyst to shake stocks out of their obvious trading range in the first chart above.  Perhaps, Greece and the EU settling their differences could provide such a catalyst for stocks.

So, watch Treasuries!  They will tell us where equities are going.  

Have a great week!

The statements, opinions and projections made in this writing are for informational purposes and are my own.  They do not represent the views of my broker/dealer.  Additionally, this writing does not constitute an offer to sell, a solicitation to buy, or a recommendation regarding any securities transaction, or as an offer to provide advisory or other services by me or my broker/dealer in any jurisdiction in which such offer, solicitation, purchase or sale would be unlawful under the securities laws of such jurisdiction

The information contained in this writing should not be construed as financial or investment advice on any subject matter. This writing is not published for the purpose of utilizing the information for short term trading or long term investing in stocks, bonds, ETFs, mutual funds,currencies, indexes, index or stock options, LEAPS, and stock or commodity futures. I expressly disclaim all liability in respect to actions taken based on any or all of the information on this writing.  Seek the personal, face to face guidance of a registered investment advisor before entering any trade or investment.  Anyone who trades or invests based on the information in this commentary does so at his/her own risk.  

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