We wrote on many occasions over the past while that we believed that the equity markets were working through a 1-quarter ‘crisis’ correction.  Our opinion has not changed.

Our view is that the cyclical trend will remain positive through the balance of the year leading to stronger equity and commodity prices. The next decision point is expected around the end of the final quarter.

Our view is that within the next few weeks long-term interest rates will turn higher. However, we use the words ‘within the next few weeks’ because we don’t have a clear sense of the timing of the turn.

A new view that we will discuss on pages 3 and 5 today has to do with natural gas futures prices. Given that the markets continue to push the Canadian dollar higher and appear set to reinvigorate the Asian trend through rising levels for the Hang Seng Index it appears that it is only a matter of time before gas prices swing higher. Similar to the bond market we are looking for a trend change that has yet to happen.

We may find today whether the Federal Reserve is going to hasten the recovery process through additional monetary easing.  The markets certainly seem to ‘feel’ as if something is going to happen.

Below we return to an argument that we have made on a relatively consistent basis over the past few months. The chart at top right shows an upside-down view of the sum of short-term (3-month TBills) and long-term (10-year T-Notes) Treasury yields from 2008. The chart below right shows the product of the S&P 500 Index times the CRB Index (equities times commodities).

The idea has been that the cyclical trend (denoted by the combination of equities and commodities) follows the trend for the bond market with a two year lag. We are using an upside-down view of bond yields to represent the trend for bond prices during the final half of 2008.

If our argument proves correct then the cyclical trend through the last six months should be driven by what happened in the bond market over the final two quarters of 2008. If all goes well we should see steady improvement in asset prices from here to the end of the year.

Equity/Bond Markets

Above we showed the SPX times the CRB Index and compared it to yields (scaled upside down to reflect the movement of prices) from two years previous. The twist is that the cyclical trend relates to the bond market on two different planes. It tends to lag the bond market by two years while also moving inversely in real time. While this may seem overly complicated... so are the markets.

Below we compare the U.S. 30-year T-Bond futures and the SPX times the CRB Index.

One thought is that it may take ‘new highs’ for the combination of equities and commodities to turn the bond market lower in price. In other words something north of 34,000 for the product would likely be enough to break the back of the rising bond price trend.

It has been an interesting last few months. We have attempted to show and explain that there are two major ‘drivers’ impacting the equity markets. On the one hand the weaker U.S. dollar has helped support commodity prices while also pushing the Hang Seng Index higher. On the other hand tumbling bond yields has given the impression of rapidly slowing growth.

At bottom is a comparison between the U.S. Dollar Index (DXY) futures and the Hang Seng Index. We have argued that IF the two moving average lines for the Hang Seng ‘cross’ then the cyclical trend is turning negative. Dollar weakness came at a perfect point in time as the moving average lines converged into July.

Lastly we show the share price of chip maker Intel (INTC) and two moving average lines for 10-year Treasury yields (200-day in red, 30-day in purple). While the Asian growth theme (Hang Seng Index) has rallied with the weaker dollar the tech theme has remained under pressure along with lower yields. We expect yields to swing upwards some time this quarter.