Charts Updated Friday May 27, 2011 4:30PM
If you’ve been reading Allstarcharts, you know by now that I love my ratio analysis. These days we are always looking for clues to help us determine whether the “Risk-On” trade is dominating the market or if it’s the “Risk-Off” trade that is ruling the stock market world.
Today we are looking at one of the more common sense ratio trades that often gets overlooked: Junk Bonds vs US Treasury Bonds. Why don’t I see more of this? Not sure. But think about it, if big money is looking for yield and is willing to take the “Risk”, they will start buying High Yield Bonds (that’s just fancy nomenclature for “Junk”). If big money wants to be safe and needs somewhere to hide, then the US Treasuries Market is where they like to go. This creates a great Risk-On/Risk-Off ratio that helps us with our every day analysis of US Equities Markets.
Here is a 4-year chart of $HYG vs $IEF (in red) with $SPY behind it (in blue). $HYG is the iShares High Yield Corporate Bond Index Fund, representing Junk and $IEF is the iShares U.S. 7-10 Year Treasury Bond index Fund representing Government Debt. Look how well this ratio correlates with the S&P500:
This gives us great insight into the behavior of US Equities. Let’s take a closer look at the 1 year chart of just price action. I would feel much more comfortable being on the Long side of Equities if this ratio can get back above the 50 day Moving Average around 97.5 creating a higher low in the ratio. This would be a positive for stocks in general, but more specifically the aggressive and higher beta names.
More on Risk-On/Risk-Off: