Bond Model Turns Positive
Our fundamental bond model has turned positive, and we are bullish on US Treasury bonds.
Since 2010, strength in the bond market (and in our model) has been a precursor of economic weakness and signaled an intermediate term top in the equity markets. Figure 1 shows a weekly price chart of the SP500 with an analogue version of our bond model in the lower panel. At point #1 the bond model turned positive in March, 2010. Shortly thereafter the market had its spring and summer swoon on concerns for economic weakness. The Federal Reserve came to the rescue with QE2, which was telegraphed by Federal Reserve Chairman Bernanke at the Jackson Hole meetings. Point #2 is March, 2011 and once again economic concerns began to surface. The equity market essentially went into a 5 month topping process that led to a 20% drop over 5 weeks in August, 2011. Our recession based model actually indicated that the US economy was in recession, but the Fed intervened with Operation Twist putting a floor under the economy and the equity markets. Point #3 is the April, 2012 top that once again led to a market swoon, which wasn’t as violent as the year before primarily owing to the fact that investors had been conditioned to buy the dip on the belief that the Fed would come to the rescue. Of course, these investors were rewarded for front running the Fed as this eventually led to the announcement of QE3.
Figure 1. SP500 v. Bond Model/ weekly
So now we have another signal in the bond model presumably suggesting economic weakness and equity market weakness. Why else would the bond model be bullish at such ridiculously low yields? This is the safe haven play. However, with the Fed already “all in” (remember this is QE to infinity) equity investors may be in for a bumpy ride. Is this the death of the Bernanke put?
Guy, it looks like your bond model is doing well. But it’s hard to tell without a bond index in the chart.
Despite the wealth of info available from the Treasury and the Fed, they don’t offer bond total return series.
However, one can download end-of-day Treasury quotes from FINRA, add the accrued interest, and generate one’s own total return series for Treasuries.
Since August, TIPS have exhibited relative strength compared to conventional Treasuries.
Excellent concluding question. A capital starved, derivatives laden banking system leveraged to a measure beyond anything any central banking consortium can sustain (which fact is evidenced by extraordinary measures central banks already have taken) certainly appears at an historic juncture.
The question I have is when will the bond market realize the Fed isn’t joking about debasing the purchasing power of all things dollar denominated?
I ask because that will be the day when the equity market’s doom is sealed.
TC: Thank you
The equity markets are in a pickle; weak economy suggests lower yields which increases the specter of inflation; without organic growth anything that brings about higher yields will be an environment where equities do poorly