A Consolidation You Can’t Afford To Miss

From the Desk of Ian Culley @IanCulley

Fed Chair Jerome Powell continues to rule the markets with an iron fist, mercilessly punishing any who doubt his supreme will. 

Or maybe I should stop daydreaming at my desk. 

Either way, this little fantasy is a helluva lot more entertaining than the monotonous uptrend in US Treasury yields. 

But I’ve found boredom – when not taken seriously – can lead to neglect.

That’s where process steps in to save the day. 

It’s hard for the market to catch us off guard if we’re constantly reviewing the charts.

And these next two bond charts demand our full attention…

First, the High Yield Bond ETF $HYG relative to the US Treasury Bond ETF $IEI: 

It’s an oldie but a goodie. I look at this chart every single day. 

It’s that important – not just to the bond market, but the entire marketplace, including stocks and commodities. The HYG/IEI ratio provides another way of monitoring credit spreads and bond market stress. 

If the bond market experiences unruly selling pressure and volatility spikes, this ratio will register the damage.

But it’s not showing any damage at the moment. Rather, HYG-to-IEI is printing fresh 52-week highs as credit spreads contract.

A tight bearish momentum divergence highlights the only blemish on the chart.

HY bonds versus US Treasuries are painting an overall bullish picture for the market. Of course, that could change if HYG breaks down on absolute terms.

Check out HYG’s tight seven-week coil:

I don't consider the above consolidation a potential bull pennant. Flags and pennants play out over days and weeks – but seldom beyond three weeks and never beyond four. (I don’t make the rules; I simply do my best to follow them.)

We can think of this seven-week coil as Matthew McConaughey’s David Wooderson from "Dazed and Confused," leering at high school girls while loitering outside the local pool hall – a bit long in the tooth for a pennant.

Alright, alright, alright...

The coil lacks a directional bias. So this thing could go either way.

Stock market bulls don’t want to see HYG break down below 76.25, as a more pronounced risk-off tone likely follows.

Rug Pull enters stage right.

To be clear, the market appears healthy at present. But a devastating decline could hit in an instant.

Stay tuned.

Countdown to FOMC

The market is pricing in an initial 25-basis-point rate cut at the June meeting. 

Here are the target rate probabilities based on fed funds futures:

Click the table to enlarge the view.

This data is from the CME FedWatch Tool as of February 22, 2024.

Thanks for reading.

Let us know what you think.

And as always, be sure to download this week’s Bond Report!