BOND MARKET CONSENSUS (Negative Consensus/Bull Market Indicator) Treasuries signalling peak for stocks?

May 28, 2015

There is a fair bit of chatter about there about an impending pullback in stocks. What’s interesting is that it isn’t coming so much from people in the equity side but from the fixed income side. In a recent post by Avner Mandelman, Chief Investment Officer of Acernis Capital, he cites the bond market, specifically US Treasuries bonds are flashing the same warning signs that took down stock prices in the 2000-2003 (dot com explosion), 2007-2009 (financial crisis) periods.

“… Professor Bond confirms what our physical sleuthing keeps unearthing: there’s high likelihood that a market cyclical peak is near. The chart below shows the ratio of U.S. 30-year T-Bond prices to the S&P500 (the dotted line), against the S&P500 (the red line). The chart indicates the following conclusions:..”

“Whenever T-bonds did worse than stocks (the dotted ratio-line pointed down), the stock market went up. (Mid to late 90’s; 2003-2007; 2009-2015)

Whenever T-bonds outperformed stocks (the dotted line pointed up), the stock market went down. (2000-2003, 2007-2009, 2015-?)

Over the last 20 years, the inflection points when the direction of the T-Bond/S&P500 ratio changed, is when the market reached a cyclical peak. We seem to be at such an inflection point now.

The question is: “Will this pattern repeat?” Does the recent upturn in T-Bonds/S&P ratio signal a market peak? We think it does.

  • One option is that, as Fed easing turns into squeezing and as German Bunds drop following an inevitable Greek (and other national) debt write-offs, the relative attraction of the 2.6-per-cent U.S. T-bond yield would be irresistible. The flight to safety should drive T-bond yield down and prices up, which should cause the inflected ratio to rise and stocks to fall into a “normal” bear market, as in 2000-2003 and 2008-2009.
  • But the other option is that, as in 1987, both bonds and stocks will fall, but stocks will fall harder than bonds. In 1987, T-Bonds crashed first, -25 per cent over nine months, sucking money out of stocks, until these, too, crashed: -23 per cent in a day.”

Right now it’s all about interest rates and money printing. The lead dog in this show is the Federal Reserve and if they decide to start hiking rates then Mr. Mandelman’s premise will have wings. Until then the incentive is there for stock prices to keep marching up. It literally is a game of musical chairs. You just don’t want to get caught when the music stops.