BOND BOUNCE IS UP AGAINST CHART RESISTANCE AND LOOKS OVERBOUGHT -- HIGH YIELD BOND ETF IS TESTING ITS SPRING HIGH -- THAT'S AN IMPORTANT TEST BECAUSE HIGH YIELD BONDS ARE CLOSELY CORRELATED TO THE DIRECTION OF THE S&P 500
BOND RALLY IS NOW OVERBOUGHT ... After selling off sharply between May and September, bond prices have been bouncing for the last two months. The bounce, however, has reached technical levels that may cap the rally. Chart 1 shows the 7-10 Year T Bond iShares (IEF) having retraced 50% of its previous downtrend. In addition, the IEF is up against its 200-day moving average. The green line above the chart also shows the 14-day RSI line having reached overbought territory at 70 for the first time since April. Chart 2 shows a similar trend for the iBoxx Investment Grade Corporate Bond iShares (LQD). Chart 2 shows that the LQD has reached potential chart resistance formed earlier in the year. Notice that the horizontal line drawn below the first quarter lows turned from green to red. That's because a broken "support" level becomes a new "resistance" level after it's broken. Its 14-day RSI line has also reached overbought territory at 70 (down arrows).
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Chart 1
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Chart 2
HIGH YIELDS BOND FUND TESTS SPRING HIGH ... The bond fund at the most critical chart point is in the high yield category. Chart 3 shows the iBoxx High Yield Corporate Bond iShares (HYG) in the process of testing major chart resistance at its May high (yellow circles). That puts the high-yield bond rally at a critical juncture. In addition, the red 14-day RSI line is starting to back off from overbought terrory over 70 for the first time since the spring. That raises the possibility of some profit-taking hitting the high yield market around current levels. What happens to high yields bond prices has an effect on other fixed income markets. It also has an impact on stock market direction as well. That's because high yield bonds are the most closely correlated to stock market trends.
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Chart 3
HIGH YIELD BONDS ARE CLOSELY CORRELATED WITH STOCKS... Chart 4 shows a positive correlation between the High Yield Corporate Bond iShares (green line) and the S&P 500 (price bars) since the start of the year. The reason for their linkage is because high yield bonds are very much influenced by the credit quality of their corporate issuers. A stronger stock market implies a stronger economy which reduces the risk of defaults on those bonds. Bond markets peaked during May (the HYG peaked first), bottomed together in late June, and have risen together since then. The HYG, however, is now up against its spring high and in an overbought condition. Any pullback in the high yield bond fund could lead to some profit-taking in stocks as well. The black line below the chart shows the 60-day Correlation Coffiicient between the two markets currently at a very high reading of .91. What happens in one influences what happens in the other.
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Chart 4
A LONGER TERM COMPARISON ... Chart 5 demonstrates the close linkage that has existed between high yield corporate bonds (green line) and the stock market (gray area) since 2008, and shows their strong tendency to rise and fall together. Both fell during 2008 and bottomed together during 2009 before resuming their uptrends. Both also corrected downward during 2011 (red circle), before hitting new highs together during 2012. New highs in one market has been confirmed by new highs in the other. At the moment, the HYG has yet to move to new highs by the the S&P 500 (yellow circle). That needs to happen to keep their uptrends in sync with each other.
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Chart 5
GOLD AND SILVER TUMBLE... A modest uptick in bond yields, and a bounce in the U.S. Dollar, are putting downside pressure on precious metals. Chart 6 shows the Gold Trust SPDR (GLD) falling sharply today to fall back below its 50-day average. The gold rally still remains well below its 200-day moving average which makes the recent rebound a bear market rally. [Silver shares have a similar chart pattern, but are falling an even bigger -3.5%]. Chart 8 shows an oversold U.S. Dollar Bullish Fund (UUP) bouncing today. Its 14-day RSI line (below chart) is rebounding off the oversold 30 level for the second time since September. The UUP, however, remains below its moving average lines. A 1% drop in the Euro is the biggest contributor to the dollar rebound. The dollar uptick is putting downward pressure on most other commodities today as well.
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Chart 6
