From the desk of Steve Strazza @Sstrazza
This week’s Mystery Chart was a simple yet pivotal one… it was a ratio chart of Stocks vs Treasury Bonds.
With stocks struggling at resistance this week and Treasuries meandering beneath all-time highs, both appear to be at key inflection points.
Making things even more interesting is that the S&P 500 (SPY) relative to 20+ Year Treasury Bonds (TLT) ratio is also at a key level of interest. It is make-or-break time for these two asset classes so let’s dive in and see what’s going on.
This is a weekly ratio chart of SPY vs TLT dating all the way back to 2006.
Click on chart to enlarge view.
As we mentioned in the Mystery Chart Post there has definitely been some structural damage to this ratio as price just crashed through a long-term uptrend line and registered an extreme oversold momentum reading. At the same time, price has since rebounded nicely off of support at prior lows from 2014-2016 and is now retesting its breakdown level from below.
So let’s think about what drives this ratio for insight as to how it is likely to react at this critical level of interest.
It couldn’t be more simple. Large-Cap stocks need to keep outperforming Long-Term Treasuries if price is going to push back through these former highs.
That had been the case up until recently but now the rally in stocks appears to be stalling with the major US Indexes confirming near-term bearish reversal patterns at logical levels of overhead supply (eg., the 61.8% retracement in SPY).
Meanwhile, Treasury Bonds have gone absolutely nowhere for more than two months now as prices consolidate around record highs. But, that may be about to change…
Let’s take a close look at the S&P 500 overlaid with the 20+ Year Treasury Bond ETF in order to see their diverging paths over the past few sessions.
Notice how Treasuries rallied (albeit with plenty volatility) while Equities sold off earlier in the year. Then we saw the opposite as the S&P 500 continued to stair-step higher throughout April while Bonds were making a series of lower highs and lower lows.
Just this week we are starting to see evidence of this relationship shifting back in favor of Treasuries as TLT made its first higher high in over a month today, broke above a short-term downtrend line, and finally broke above its AVWAP from April’s all-time high.
While Treasuries look ready to make another attempt at their recent highs, Stocks have been moving in the opposite direction this week with the S&P making its first lower low since the rally began as well as violating a minor uptrend line from April.
While a few days don’t make a trend, this is definitely a change in character in these asset classes from what we’ve seen in recent weeks/months. What makes it even more worth paying attention to, is that this is coming at a time when the S&P 500 relative to 20+ Year Treasuries is testing a key level of potential resistance at prior highs after recently breaking down in favor of Treasuries.
Whether or not Treasuries finally break to new highs should ultimately decide how this ratio resolves.
Whenever I want to know what’s up with the Treasury Market, I look at the US 5-Year Yield ($FVX) as it tends to be a great leading barometer for longer-term yields.
It closed today just a few basis points off its all-time closing lows, back at that critical 0.30% level. You can add this to the list of evidence erring in favor of Treasuries over Stocks.
The bottom line for this debate can be boiled down simply: the technical setup in Treasuries looks much better than it does for Stocks right now, over both long and short-term timeframes. TLT is trading just a few percent off all-time highs as price just broke above a confluence of resistance. Meanwhile, SPY and other major US Indexes just made their first series of lower highs and lower lows since March and confirmed bearish reversal patterns at key support levels.
We must also consider that after a decade-plus of outperformance from stocks, the recent breakdown in the SPY/TLT ratio looks like the beginning of a long-term reversal in this relative trend.
While anything can happen, we want to watch this relationship closely because if we do find ourselves in an environment where stocks are underperforming safe-haven assets like Treasuries and Yields are breaking to fresh lows, stocks are likely to be under pressure on an absolute basis.
Thanks for reading and please let us know if you have any questions!