Clues From Credit Markets

This kind of intermarket analysis doesn’t just tell us about the Fixed Income market, it also provides a wealth of information regarding the level of risk appetite - or risk aversion, that investors are currently seeking in ALL markets.

Let’s take a look at two of these ratio charts now.

Here’s Short-Term Treasury Bonds $SHY relative to their Longer-Term peers $TLT.

This structural downtrend could be shifting gears as it is clearly under pressure with price recently reclaiming a critical level.

But what are the implications if this is actually a failed breakout?

What does this ratio even tell us?

First of all, this is more or less another way to visualize the yield spread between short and long-term treasuries.

As most of us know, a steepening yield curve (which is simply the difference between short and long treasury yields) is a positive development, while the flattening out, or inverting of the curve is typically quite bearish - and is a very common recession indicator.

Well, you can think of this ratio rising as the same thing as the curve steepening. Therefore, this strong uptrend tells us that long-duration yields have been rising at a faster pace than short-term ones. Again, positive stuff.

When we're in such an environment whereby the curve, or this ratio chart is moving higher, Treasury Bond prices, in general, tend to be trending lower... and vice versa.

Bottom line, if SHY/TLT violates this key level of interest it's currently testing around 0.60 it would really throw a spanner in the works for our raising rates thesis.

Next we have Treasury Inflation-Protected Securities $TIP relative to Treasuries $IEF.

When this ratio is rising, it tells us that investors are anticipating higher inflation in the future.

This one has really made a vertical move higher off of last year's lows. After exploding through its pre-COVID peak, it’s now back to a key level at its 2018 highs as it tries to break out of a multi-year base. Now remember... 2018 is when global risk peaked - this is just another reason why this current level is so important.

But once again, we are seeing the signs of a failed breakout at this key inflection point.

What effect will this have on other asset classes if this turns out to be the case and we experience a fierce move to the downside?

We probably would see lower rates, lower commodities prices, cyclical weakness, and maybe even a higher dollar...? Oh, and stocks are likely under pressure too.

We'll continue to watch cross-asset ratios such as these for information regarding the health and future direction for markets.

For now, the information we're getting from the Bond Market is simply reaffirming what we're already seeing from other asset classes... And that is that we are very likely to be in a trendless mess for the next few months, maybe longer.

Zooming out to the bigger picture and we remain bullish. Nothing about our structural outlook has changed. Although in the short-term, more and more data points are suggesting risk-assets remain rangebound.

So, let’s not overcomplicate it.

These next moves in the credit market are likely to have significant implications across a wide variety of other asset classes so we're paying close attention and will be sure to follow up once these charts resolve!

[hide_from accesslevel= “premium”]If you enjoyed this post and want access to our premium research, start your 30-day risk-free trial or sign up for our “Free Chart of the Week” to receive more free research like this.

[/hide_from]

Thanks for reading and please let us know if you have any questions!

Allstarcharts Team