Bond Market Keeps Diverging With Stocks
- Posted by JC Parets
- on July 17th, 2014
We do a lot of intermarket analysis on a day to day basis either for confirmation or to look for divergences. One of my favorite ways to gauge investor risk appetite is to follow a ratio between Junk Bonds and Treasury Bonds. If there is a real demand to put risk on the table, I want to see flow into Junk outpace that into Treasuries. If managers are worried, you would expect money to be allocated towards risk-free government debt at a faster rate than Junk Bonds.
Today we are taking a look at the Junk to Treasury bond ratio ($HYG vs $TLT) hitting a new 52-week low this week while the Dow Jones Industrial Average hits new all-time highs. We want to see the bond market confirming the action in stocks, not diverging by this much. The bond market is giving us a much different message:
There is an old saying on The Street that the bond market is smarter than the stock market. I don’t know if that’s true or not. I like to think so. But what’s more important here in my opinion is that one is not confirming the other. The flow into risk-free government debt is really outpacing the flow into the riskier Junk Bond market. That’s not a good sign of risk appetite, at least not to me.
The trend in this ratio is still lower. We’re hitting fresh 52-week lows this week as the headlines read, “Dow Jones Industrial Average Hits Another Record High”. Remember the market is not 30 stocks. There’s a lot more going on here. I’m sticking with a cautious stance in US equities as a group for a lot of reasons. There are some individual less correlated stocks out there that I would prefer to be in if we have to be in stocks. Pairs are also a valuable tool that allows us to maintain an equities neutral position.
This is a bearish time of the year. So this makes sense to us from a seasonal perspective as well. Feel free to read some of my recent posts about stocks:
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J.C. Parets is the Founder & President of Eagle Bay Capital, LLC. He earned the Chartered Market Technician designation (CMT) in 2008 and now actively manages money incorporating Technical Analysis and Behavioral Finance into his practice More
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