We had a very nice holiday but as usual have returned in a state of complete exhaustion. Nothing an actual night of sleeping horizontally won’t cure, however.
We tend to spend most of our time working on the equity, commodity, and forex markets although every now and then we will focus rather intently on the bond market. Such was the case a month or two ago. Our argument at the time was that long-term Treasury yields should decline as prices move higher and while that may seem somewhat intuitively obvious today… there were many- including some of the best known traders of our age- who were actively and aggressively shorting the bond market based on the view that the bank bailouts were going to lead to hyper-inflation while the sheer size of the borrowings simply had to hammer fixed income prices lower. We stood our ground, made our arguments, and then moved on to new topics once the 30-year T-Bond futures worked back up into the low 120’s.
The chart at top right compares the TBond futures with the sum of 3-month eurodollar futures and the Fed funds rate. The argument was that every few years long-term Treasury prices rise to a peak when the sum of eurodollars and the funds rate (using two moving average lines to smooth out the trend) rises above 100.
The point? The TBond futures have risen more than 20 points since the start of November and our chart still hasn’t generated a ‘sell’ signal.
Below right we show the 30-year T-Bond futures, 3-month eurodollar futures, and the S&P 500 Index (SPX).
The idea behind this chart was that the equity markets turned upwards in the late summer of 1982 AFTER 3-month eurodollar futures had begun to rise and AFTER the TBond futures broke to new highs.
If we take the argument literally then the S&P 500 Index should be at or near a bottom once 3-month eurodollar futures begin to rise and the TBond futures close above roughly 124. The chart at right shows that these two conditions were met towards the end of last month.
The point? While it is hard to get overly excited about any rally that can’t even make it through the 50-day exponential moving average line there is still a reasonable chance- if the markets come to believe that the auto makers will survive and eventually thrive- that a bullish turn of some significance occurred last month.
We are going to return to the same argument that we made in our last issue. At right we show the S&P 500 Index (SPX), the CRB Index times the U.S. 30-year T-Bond futures, and the ratio between heating oil futures and the stock price of Ford (F). The top chart is from 1981 through 1982 while the lower chart is from the current year.
The start of the rising equity market trend began in late 1981 when the heating oil/Ford ratio finally peaked and turned lower. The actual bottom for the equity markets was made just in front of the start of a sustained rally in the CRB Index times TBond futures combination.
Quickly… equities are part ‘financial’ and part ‘real’. For this argument we are suggesting that bond are ‘financial’ while commodities are ‘real’. On occasion strong equity markets trends begin as the product of the CRB Index times TBonds swings upwards.
The question is… from an intermarket point of view what has to happen before the equity markets start to rise? Our argument has been that the autos have to turn upwards, bond prices have to make new highs, and the commodity markets have to- at minimum- begin to flatten out somewhat. In other word the heating oil/Ford ratio should decline while the CRB Index times TBonds combination starts to lift in large part due to bond markets strength. So far… so good.
We are going to return to a chart that continues to vex. Below we show the ratio between Mitsubishi UFJ (MTU) and the gold etf (GLD) and the price of 3-month euribor futures.
The argument here is that downward pressure on the equity markets dates back to late 2005 when European interest rates began to rise so the eventual recovery will follow a return to lower European interest rates (i.e. rising euribor futures prices). Since downward pressure led to a falling MTU/GLD ratio (banks weaker than gold prices) the recovery should feature strength in the financials relative to gold. We are still waiting…