by Kevin Klombies, Senior Analyst

Monday, June 4, 2007

Chart Presentation: MTU

We have included a chart of the Morgan Stanley World ex-USA Index along with 10-year U.S. Treasury yields. The basic point is that the trend for long-term interest rates has less to do with domestic economic conditions and more to do with the trend for global growth. Put another way determining the path or trend for long-term Treasury yields in the post-1998 time period depends more on how stock prices in Europe, Asia, and Latin America are performing than the pace of U.S. employment or the health of the local real estate market.

We featured Wal Mart on the first page last Friday and it had such a nice stock price ‘pop’ that we thought, just in case lightening were to strike twice, that we should show Japan’s Mitsubishi UFJ (MTU).

The premise is that Japan’s stock market (Nikkei 225) does better than the S&P 500 Index when long-term interest rates are rising and worse when long-term yields are falling while MTU outperforms the Nikkei when yields are rising and underperforms when yields are falling. The idea is that MTU represents a leveraged call on the trend for yields.

The chart compares the stock price of MTU with the ratio between the Nikkei 225 Index and Japan’s 10-year (JGB) bond futures from the end of 2003 into 2005. The chart below right shows the same comparison from late 2005 forward.

We have shown this perspective on quite a few occasions in the past as we argued that MTU was trading lower into the summer of 2005 and then pivoted into a positive trend as soon as the ratio of Japanese equities to bonds (Nikkei/JGB) broke to new highs. Our thought was that if the ratio broke to highs once again it should lead to better prices for MTU.

The ratio did make new highs into February but three or four trading sessions later the SPX rolled right into a significant price correction. As of the end of last week the ratio had finally returned to new highs. Our thought here is that this suggests one of two near-term outcomes. Either MTU pushes up and through its 200-day e.m.a. line and continues to rise or similar to this past February it stalls below the moving average line and equity prices on a global basis find reason to correct rather sharply. Obviously this is a perspective that we are going to have to work on over the next few days.



Equity/Bond Markets

To quickly summarize our argument we had initially intended on showing a positive view on MTU based on the idea that an upside break out by the Nikkei/JGB ratio should be distinctly bullish. However we do recall that when the ratio made new highs in February it led directly into a serious ‘crack’ in the Chinese stock markets that preceded a global equity markets correction.

The chart shows crude oil futures and the biotech etf (BBH).

We did this chart last week but wanted to take one last run at it. The idea is that the biotechs trend inversely to energy prices and generally with the U.S. dollar. When the BBH began to lift off of the support line at the end of March it suggested that oil prices had peaked but early in May when oil prices held above 61 and trended back through 66 the biotechs sold off back to support. Through trading on Friday it appears that the equity markets are suggesting that oil prices are range trading between 61 and 67. Obviously an upside break to new highs by crude oil would go with rather intense weakness in the biotechs but into this week the markets are not trading as if this is a likely outcome.

Below swe feature a long-term view of crude oil futures and the spread between the S&P 500 Index (SPX) and the Amex Oil Index (XOI).

The argument is that the spread has tightened in to around 50 points (i.e. the SPX only 50 points higher than the XOI) on four occasions- twice in 1985, once in 1990, and again in August of 2006.

We show a shorter-term view of this comparison below. The spread reached ‘50’ into early August last year which marked THE top for crude oil futures prices in the same manner that it indicated significant tops in 1985 and 1990. Our thought is that the spread may not return to 50 for many years but… if this were to happen once again this summer… it should mark another major selling point for energy prices.