INTEREST RATE SENSITIVE ETFS LEAD MARKET LOWER -- TLT HOLDS BREAK AND CONTINUES LOWER -- INTEREST RATES COULD SIMPLY RETURN TO NORMAL -- DOLLAR BREAKS FLAG RESISTANCE AS EURO PLUNGES -- GOLD AND SILVER TANK ON TAPER THOUGHTS
INTEREST RATE SENSITIVE ETFS LEAD MARKET LOWER... Link for today's video. Stocks extended their correction as the S&P 500 ETF (SPY) closed lower for the third day running. Even though the ETF declined three days in a row, selling pressure has been relatively light because SPY only lost around 1% the last three days. Treasuries were hit pretty hard and this caused yields to surge (details further down). Unsurprisingly, interest rate sensitive stocks bore the brunt of selling pressure on Wednesday. The Utilities SPDR (XLU), the REIT iShares (IYR) and the Telecom iShares (IYZ) were all down around 1% for the day. These stocks typically have high dividend yields and they become less competitive when bond yields rise. These high-yielding stocks are sometimes referred to as bond proxies and they are often positively correlated with bond prices. This means high-yielding stocks often fall when Treasury bonds fell and Treasury yields rise. Chart 1 shows XLU breaking triangle resistance and then stalling the last five weeks. The breakout is holding as broken resistance turns support in the 38.25-38.5 area. A move below the early November lows would negate this breakout and be bearish. The indicator window shows the price relative (XLU:SPY ratio) moving lower the last four months as XLU underperforms SPY.
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Chart 1
Chart 2 shows the REIT iShares (IYR) breaking wedge support with a sharp decline in early November. After a small bounce last week, the ETF hit resistance near the breakout and moved sharply lower the last three days. The indicator window shows the price relative moving steadily lower the last six months as IYR underperforms the broader market.
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Chart 2
Chart 3 shows the Telecom iShares (IYZ) breaking support with a sharp decline below 28.5 today. Notice how the stock fell to 29.5 in early November and then consolidated for two weeks. This consolidation looks like a flat flag and the subsequent break signaled a continuation lower. The indicator window shows the price relative breaking down this month as IYZ starts showing relative weakness.
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Chart 3
TLT HOLDS BREAK AND CONTINUES LOWER ... Treasury bonds and yields were in focus on Wednesday because the Fed released its meeting minutes in the afternoon. While it is truly a challenge to decipher Fed speak, reports suggest that the Fed is still considering a taper. Yes, there is that ugly "T" word. Treasuries were down heading into the release and remained down afterwards. Chart 4 shows the 20+ YR Treasury Bond ETF (TLT) falling over 1% and extending its downtrend with a plunge below 104. First, note that the long-term trend for TLT is down and the rising flag/channel was a corrective bounce. This correction ended with the support break in early November. After a small bounce last week, the ETF met resistance near broken supports and resumed its decline.
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Chart 4
The indicator window shows the Aroon Oscillator breaking below -50 to confirm the break down in TLT. This indicator measures the difference between Aroon Up and Aroon Down. A move into negative territory means Aroon Down is above Aroon Up. I qualify Aroon signals by requiring a move to +50 to turn bullish and a move to -50 to turn bearish. You can read more about the Aroon indicators in our ChartSchool. Chart 5 shows a long-term chart for TLT and a downside target in the low 90s.
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Chart 5
INTEREST RATES COULD SIMPLY RETURN TO NORMAL... Many people think that quantitive easing is largely responsible for the economic recovery and stock market gains. This theory suggests that the stock market and the economy will tank when/if the Fed pulls the punch bowl. This is certainly giving the Fed a lot of credit. I am not sure how much influence the Fed had on the economy or stock market, but I do think the stock market is in a long-term uptrend and Treasury bonds are in long-term downtrends. Furthermore, I think weakness in Treasury bonds is going to be positive for the stock market. First, Treasuries are underperforming stocks and this makes stocks more attractive. Second, rising interest rates suggest that the economy is strengthening, not weakening. Moreover, the desire to taper suggests that the economy is strong enough to stand on its own. These sound like bullish arguments for stocks. Chart 6 shows the 10-YR Treasury Yield ($TNX) breaking out at 2.6% in early November and holding this breakout over the last two weeks. Chart 7 shows a long-term target in the 3.6% area. While this may seem high, keep in mind that the six month average was around 3.6% in mid 2008 (pre-crisis). Treasuries and yields move in opposite directions, which means a rise in rates implies a decline in Treasury bonds. Money from Treasuries has go somewhere and I suspect that some of the proceeds will find their way into the stock market, but maybe not into high-yielding stocks.
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Chart 6
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Chart 7
DOLLAR BREAKS FLAG RESISTANCE AS EURO PLUNGES... Forex traders are also keeping en eye out for signs of tapering because any decrease in quantitative easing would be bullish for the Dollar. Simply put, QE dilutes the Dollar and puts downward pressure on the greenback. Chart 8 shows the Dollar Bullish ETF (UUP) breaking trend line resistance and exceeding its mid October highs with a surge above 21.8 this month. The ETF fell back with a falling flag the last two weeks and then broke flag resistance with a surge above 21.8 today. This breakout signals a continuation higher and targets a move to the 22.3-22.40 area.
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Chart 8
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Chart 9
The Euro accounts for around 57% of the Dollar Index and the Dollar ETF. Unsurprisingly, weakness in the Euro/Dollar relationship is the main driver of Dollar strength. Chart 9 shows the Euro Trust ETF (FXE) breaking support in the 133 area with a sharp decline and then bouncing back to the 134 area. This advance formed a rising flag and a the ETF broke flag/wedge support with a sharp decline today. This signals a continuation of the prior decline and targets a move to the 130 area.
GOLD AND SILVER TANK ON TAPER THOUGHTS... Unsurprisingly, the combination of Dollar strength and taper talk is weighing on gold and silver. Both were already in bear mode after breakdowns in early November and this week's losses simply extended their downtrends. Chart 10 shows the Gold SPDR (GLD) failing to hold the wedge breakout in late October and breaking back below 127 the first week of November. The summer lows mark the next downside target in the 115-117 area. Chart 11 shows the Silver Trust (SLV) breaking flag/wedge support in early November and continuing below 20 this week. The summer lows mark the next target around 18. Note that both charts use Heikin Ashi candlesticks, which combine two days' worth of price data to create a "composite" candlestick. You can read more about Heikin Ashi candlesticks in our ChartSchool.
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Chart 10
