COMMODITIES ETF CHALLENGES 200-DAY AVERAGE WHICH MAY BE PULLING TREASURY BOND YIELDS HIGHER -- HIGHER YIELDS ARE HELPING FINANCIALS -- INDUSTRIAL SPDR SIGNALS SHIFT TO ECONOMICALLY-SENSITIVE STOCKS -- RYDER, PACCAR, AND LOCKHEED MARTIN LEAD XLI HIGHER
RISING COMMODITIES PULL BOND YIELDS HIGHER... The rally in commodity markets may be about to move into higher gear. Chart 1 shows the DB Commodities Tracking Index Fund (DBC) on the verge of moving above its 200-day average for the first time in two years. A weaker dollar is one of the reasons why. The commodity rally is continuing to support rallies in energy and material stocks which are among today's strongest groups. I recently suggested that rising commodity prices could start pulling bond yields higher. That may be happening. Chart 2 shows the 10-year Treasury Yield at the highest level in a month after forming a pattern of "rising bottoms" between February and April. That means that bond prices are falling as commodities are rising. That's normal. That rotation from bonds to commodities has a lot of intermarket implications. For one thing, it favors stocks over bonds. It also favors assets tied to commodities, which include currencies and stocks of foreign commodity producers in developed and emerging markets. It favors economically-sensitive stock groups over defensive ones because it implies economic strength. It's also good for financial stocks that benefit from rising bond yields like banks, brokers, and insurers.
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Chart 1
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Chart 2
RISING YIELDS BENEFIT FINANCIALS... Chart 3 shows the Financials Sector SPDR (XLF) nearing a test of a resistance line over its 2015 highs, after recently clearing its 200-day average. The XLF/SPX ratio (above chart) has risen to a three month high after completing a "double bottom" between February and April. Notice how closely that ratio follows the 10-Year Treasury yield (green line). That's because rising bond yields are good for banks, brokers, and insurers. That suggests that financials are one of the beneficiaries of rising commodity prices and the hint of higher inflation. Higher energy prices also help energy firms that borrowed from banks.
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Chart 3
INDUSTRIAL SPDR SHOWS NEW LEADERSHIP ... A month ago I showed the Industrials Sector SPDR (XLI) breaking through its November high. It was the first of the economically-sensitive ETFs to achieve that bullish breakout. Even more impressive was the sharp upturn in the XLI/SPX ratio in early February (top of chart). That relative strength line had been falling for nearly two years. The 50-day average has also exceeded its 200-day which is bullish (blue circle). I suspect this year's bottom in commodity prices is signalling that the threat of global deflation has passed which is good for the global economy and ETFs like the XLI which include economically-sensitive industrial and transportation stocks. Money moving into economically-sensitive stocks has been moving out of the more defensive staples and utilities (and bonds).
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Chart 4
RYDER, PACCAR, AND LOCKEED MARTIN ARE INDUSTRIAL LEADERS... The next three charts help explain why the Industrial SPDR (XLI) was one of the day's strongest sectors. Chart 5 shows Ryder System (R) climbing above its 200-day average for the first time since last August. Ryder is one of the transportation stocks included in the XLI and is also the day's biggest percentage gainer in the Dow Transports. Chart 6 shows Paccar (PCAR) rallying to an eight-month high. Finally, Chart 7 shows Lockheed Martin (LMT) hitting a new record to lead the defense group higher. It's hard not to like a sector with stocks like that leading it higher.
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Chart 5
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Chart 6
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Chart 7
STOCKS ARE DOING BETTER THAN BONDS... The best way to compare any two assets is with a relative strength ratio. The black line in Chart 8 divides the S&P 500 SPDRS (SPY) by the Barclays 7-10 Year Treasury bond iShares (IEF). The histogram bars plot the DB Commodities Tracking Fund (DBC) from Chart 1. The stock/bond ratio turned up in February and appears to have completed the downside correction that saw big drops in August and January. That suggests that the pendulum has swung back to stocks. The stock/bond ratio also appears to follow the ups and downs of the commodity index over the last year. There are two reasons for that. Falling commodity prices imply slow economic growth with low inflation. That favors bonds (a falling stock/bond ratio). Rising commodity prices imply a stronger economy with more inflation. That favors stocks (a higher stock/bond ratio). A rising stock/bond ratio also favors economically-sensitive stocks (like industrials and transports) versus stocks tied to bonds like staples and utilities. Rising commodity prices favor inflation-sensitive stocks and any other global markets tied to commodities.
