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Treasury Vs Stock Performance At A Critical Juncture - A Technical Look

Tyler Durden's picture




 

Following the dramatic outperformance of Treasurys (compared to stocks) since the beginning of April many have been fast to proclaim Bill Gross wrong (when he is merely early) in his decision to abandon the asset class, while other prominent deflationists have been pounding their chest, claiming how right they have been. Well, as the chart below shows, the recent UST move has to be put in context, and the context is not pretty for "deflation." What is more troubling is that according to a technical resistance levels, the period of abnormal bond strength may be over. On the other hand, should the ratio of the UST/SPX breach above the 0.97 level, the down cycle will be broken and it may be time for a new regime of consistent Treasury outperformance.

Additional thoughts from SMRA:

Even after its longest weekly winning streak since the depths of the financial crisis (the 8 week rally of late '08), the 10-Yr Treasury futures contract has yet to reverse the long-term trend of underperformance against the S&P 500. As today's Chart of the Day reveals, the next big chance for Treasuries to significantly alter the market's long-term view of stocks being the preferred asset class has arrived, and it's not going to be easy the first time around.


Since the start of the Treasury market's spectacular stretch of consecutive weekly gains in early April, market participants have flooded into Treasuries to the tune of 9% outperformance against their rival asset class (specifically, the 10-Yr continuous contract vs. the S&P 500).

Now, after a constructive bottoming effort (double bottom) during the 1st half of this year, the benchmark Treasury contract is faced with some significant technical headwinds in its relationship with stocks. For instance, where the ratio was last reported at 0.0970 (as of Wednesday's close), it must close above 0.0975 to 0.0980 to make the respectable run against equities these past few weeks more than just a countertrend effort.

 

 

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Thu, 06/09/2011 - 08:20 | 1354025 I am more equal...
I am more equal than others's picture

... tick ..... tick ..... tick....

Thu, 06/09/2011 - 08:28 | 1354039 oh_bama
oh_bama's picture

Are we going to talk about UPWARD revisions today???

Thu, 06/09/2011 - 08:21 | 1354026 flyr1710
flyr1710's picture

looks like this means recession or not will be determined soon

Thu, 06/09/2011 - 08:22 | 1354029 hugovanderbubble
hugovanderbubble's picture

Tyler,

Please if u have time or team,

 

Take a look into Cisco ....(good level for a entry point 15-16)?  whats behind this massive drop?

Appreciate anyinsights about CSCO.

Thu, 06/09/2011 - 08:25 | 1354030 Re-Discovery
Re-Discovery's picture

Both can go down at the same time.  Rare, but . . uh . . . not good.

Thu, 06/09/2011 - 08:25 | 1354036 NoRestForTheWicked
NoRestForTheWicked's picture

Yep, when the reckoning comes, the correlation of all assets reverts to 1.  Even gold will take a momentary dip.

Thu, 06/09/2011 - 08:32 | 1354045 Re-Discovery
Re-Discovery's picture

Think of a universe where Fed stops buying USTs . . . China stops buying USts . . . Pimco stops buying USTs . . .formerly 'hope-filled' equity analysts downgrade profit expectations on an oil shock . . .Japan sells its USTs . .

Not likely I know.  Completely out of left field I know.  But, lets just pretend.

 

Thu, 06/09/2011 - 09:38 | 1354171 chartcruzer
chartcruzer's picture

I think we revisit the prior lows per

http://stockcharts.com/def/servlet/Favorites.CServlet?obj=ID3225058&cmd=show[s206018187]&disp=P

and we break the trendline of death for the US Gov,   after which interest rates eat them alive

http://stockcharts.com/def/servlet/Favorites.CServlet?obj=ID3225058&cmd=show[s218718281]&disp=P

but, we are approaching a presidential mid-term election and we have (by far) the largest military in the world, so...

Thu, 06/09/2011 - 08:33 | 1354046 razorthin
razorthin's picture

Yep, hard assets draining fiat-based paper.

Thu, 06/09/2011 - 08:24 | 1354033 bigdumbnugly
bigdumbnugly's picture

given the choice of "many" or bill gross being right, i think i'd side with gross over the longer term.

Thu, 06/09/2011 - 08:25 | 1354034 lordbyroniv
lordbyroniv's picture

I am convinced Martin Armstrong's Economic confidence model predicts a topping out 'turn date' in Treasuries next week.

Thu, 06/09/2011 - 08:31 | 1354044 cossack55
cossack55's picture

Always trust a man who went to the Big House for his personal convictions.  Agreed.  (no sarc)

Thu, 06/09/2011 - 08:57 | 1354043 Boston
Boston's picture

Wow, that double bottom really boosts the bullish argument for the 10-year, even after the recent two month run.

That said, I fully recgonize that the risk/reward today is far less attractive than it was in March.  So initiating big "buy and hold" positions today is not the way to go.  

Tactically, if the S&P corrects (after it sinks in that the Fed will truly let QE expire for a while) and if funds needs a place to park for a few months, then there's a strong short-term case for a break out in the above chart.

Disclosure: After ~4 months of being long the 10-year (50% of portfolio), I've reduced my risk by shifting everything into the 5-year.

BTW---after redrawing this chart (NOT using the log scale), the descending trendline has ALREADY been broken!

 

Thu, 06/09/2011 - 08:41 | 1354050 Tense INDIAN
Tense INDIAN's picture

Its all Technicals

Thu, 06/09/2011 - 09:12 | 1354115 TURNING POINT
TURNING POINT's picture

In reference to Bill Gross or any other forecast or recommendation - "early" is wrong.  His trade is a loser.

Thu, 06/09/2011 - 09:16 | 1354127 LawsofPhysics
LawsofPhysics's picture

All paper trades will be losers.  All physical assets (especially revenue-bearing) will be winners.

Thu, 06/09/2011 - 09:37 | 1354167 TURNING POINT
TURNING POINT's picture

HUH?  Even if its just bad timing, that necessarily means money left o nthe table (ie losses)  We could all be right if it didnt matter WHEN we bought and sold.  Gross's timing was especially poor.

Thu, 06/09/2011 - 10:43 | 1354352 LawsofPhysics
LawsofPhysics's picture

Yes, his timing was poor, but I doubt he wasn't hedged to some extent.  Again, all things paper are going to be problematic, period.  This will remain the case so long as price discovery and valuation remain impossible.  

Thu, 06/09/2011 - 09:45 | 1354188 Money_for_Nothing
Money_for_Nothing's picture

I don't understand something. Gross is saying that treasuries are a bad investment going forward. What is his argument? Deflation is coming and treasuries are not costless to buy or trade? That inflation is not going to abate as the Fed thinks. Treasury interest rates are too low?

Thu, 06/09/2011 - 10:01 | 1354233 LongBalls
LongBalls's picture

Treasury rates are too low and the Fed will keep them there. The government nor the consumer can handle higher interest. Real inflation is currently sitting at our around 10% with slow money velocity. When QE2 hits the system we will be looking at 14-20% real inflation. If money starts to pick up velocity then hold on to your shorts. All this in the face of a high unemployment.

Bill Gross is of the opinion that Treasuries are a bad investment at low interest when inflation is currently around 10%. That's a guaranteed looser of 5-6% on your money (currently). He is just a tad early in his play but still correct IMHO. 

Thu, 06/09/2011 - 10:16 | 1354273 Roger Knights
Roger Knights's picture

"On the other hand, should the ratio of the UST/SPX breach above the 0.97 level, the down cycle will be broken and it may be time for a new regime of consistent Treasury outperformance."

Here's someone who thinks Treasuries will do very well for a while, but then they will get whipsawed:

"Mr. Edwards' thesis could perhaps be summarized as "first deflation, then inflation."

"Edwards thinks that bond yields, already just below 3% on the 10-year note, could fall all the way down to 2%."

"If that happened, we would be mimicking the experience of Japan.... and the Japanese Nikkei index lost more than 75% (three-quarters) of its value in result."

"Ultimately, though, Edwards thinks out-of-control inflation still comes in the end. That is because the long-term costs of a deflationary downward spiral are too painful for any democracy to bear."

"And that is when you get the truly "nuclear" all-in policy responses that turn the currency into confetti and send bonds crashing through the floor."

"The new downside target [for the S&P]? A toe-curling 400 on the S&P, or roughly a 70% fall from recent levels."

http://seekingalpha.com/article/273949-albert-edwards-this-man-thinks-th...

Thu, 06/09/2011 - 10:24 | 1354284 Roger Knights
Roger Knights's picture

"On the other hand, should the ratio of the UST/SPX breach above the 0.97 level, the down cycle will be broken and it may be time for a new regime of consistent Treasury outperformance."

Here's someone who thinks Treasuries will do very well for a while, but then they will get whipsawed:

"Mr. Edwards' thesis could perhaps be summarized as "first deflation, then inflation."

"Edwards thinks that bond yields, already just below 3% on the 10-year note, could fall all the way down to 2%."

"If that happened, we would be mimicking the experience of Japan.... and the Japanese Nikkei index lost more than 75% (three-quarters) of its value in result."

"Ultimately, though, Edwards thinks out-of-control inflation still comes in the end. That is because the long-term costs of a deflationary downward spiral are too painful for any democracy to bear."

"And that is when you get the truly "nuclear" all-in policy responses that turn the currency into confetti and send bonds crashing through the floor."

"The new downside target [for the S&P]? A toe-curling 400 on the S&P, or roughly a 70% fall from recent levels."

http://seekingalpha.com/article/273949-albert-edwards-this-man-thinks-th...

Thu, 06/09/2011 - 10:37 | 1354340 Roger Knights
Roger Knights's picture

"On the other hand, should the ratio of the UST/SPX breach above the 0.97 level, the down cycle will be broken and it may be time for a new regime of consistent Treasury outperformance."

Here's someone who thinks Treasuries will do very well for a while, but then they will get whipsawed:

"Mr. Edwards' thesis could perhaps be summarized as "first deflation, then inflation."

"Edwards thinks that bond yields, already just below 3% on the 10-year note, could fall all the way down to 2%."

"If that happened, we would be mimicking the experience of Japan.... and the Japanese Nikkei index lost more than 75% (three-quarters) of its value in result."

"Ultimately, though, Edwards thinks out-of-control inflation still comes in the end. That is because the long-term costs of a deflationary downward spiral are too painful for any democracy to bear."

"And that is when you get the truly "nuclear" all-in policy responses that turn the currency into confetti and send bonds crashing through the floor."

"The new downside target [for the S&P]? A toe-curling 400 on the S&P, or roughly a 70% fall from recent levels."

http://seekingalpha.com/article/273949-albert-edwards-this-man-thinks-th...

Thu, 06/09/2011 - 10:39 | 1354348 Roger Knights
Roger Knights's picture

Oops--sorry for the triple post. I got an error message, so I reposted. Then I got a lengthy delay, so I hit the X button (cancel--I thought) and reposted again.

Thu, 06/09/2011 - 12:09 | 1354673 Miles Kendig
Miles Kendig's picture

Accepted.

Since you were so kind as to say so may I suggest you try for the dynamic below (Not many have employed it)  Have fun !!

h/t nmewn

Thu, 06/09/2011 - 12:07 | 1354675 Miles Kendig
Miles Kendig's picture
Thu, 06/09/2011 - 11:49 | 1354520 Miles Kendig
Miles Kendig's picture

I suspect we'll channel here until post July 4 holiday in the US.  By then a clearer picture in European sovereign debt and post QE will be available for Mr. Market to gaze at in the high heat of summer while watching austerity discontent on the streets.  Meanwhile the RRE situation in the US, China and perhaps Australia coupled with diminishing returns in the IND commodities and related segments of the export led recovery story will be topical.

I'm sure Bill Gross won't mind being a bit early on his UST call since the very same dynamics are in play with respect to his marginal purchasing of RMBS last fall.  That RMBS shopping spree should yet yield quality dividends later this fall through winter.  IF Bernanke is even somewhat successful at pinning the 10 to 2-2.4 to boost RRE purchases in the US then Bill may have to wait a bit longer for his UST position to pay out. 

In other words momma is gonna have some pretty hips show on that pretty chart. Nice that even on a bounce in S&P the 10 is steady below 3. 

So much for this effort at "normalization" of the long end to 5.  More fodder for unusual & exigent peddlers.

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