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A Broken Bond Bounce Beckons!

By: Gordon Long | Friday, December 23, 2016
A Broken Bond Bounce Beckons

Historical Correlations Give Us a Clue to What May Be Ahead!


A Falling Global Market Cap Trend Channel

Global Market Cap

The old adage that the "Trend is Your Friend" has proven to be the one that separates the winners from the losers. The key however is whether you recognize the right trend!

We are being possibly lulled into a false perception and belief of how good things appear if we solely look at the US equity rally. Yes it is temporarily rising but the 600# Gorilla is the Global Bond market and major problems are still lurking.

The trend to focus on GLOBAL MARKET CAP:

The divergence between the Global Equity Markets and the Debt Market is significant and tells us there are major differing views on what the future has in-store. Divergences like this are always resolved - and usually quite dramatically.


We Have Been Here Before!

The last time we saw such a divergence was in 2015 prior to the last Fed hike! We can see what happened on the right side of the graphic below. Stocks fell hard and bonds rose marginally.

Global Market Cap and Debt
Larger Image


An Overbought Stock / Bond Ratio Needs Correcting

Knowing that the divergence will be resolved, the question is: 1- When and 2- How? Will Bonds rise, Stocks rise, to what degree and is what sequence?

We have an extreme overbought condition in the SPY:TLT ratio as well as a recent market pattern of correcting at year beginning. Both suggest something like the pattern highlighted in the blue box below may occur.

Overbought Stock / Bond Ratio Needs Correcting
Larger Image

We can take some guess work out of this if we consider a critical correlation that historically normally occurs.

CRITICAL CORRELATION: Fed Funds Rate Change versus S&P 500 Total Return versus US Treasury Total Return

The following graphic shows what normally occurs when the Federal Reserve starts raising rates going back to the early 90's

S&P500 Total Return, US Treasury Index and Fed Funds Rate

The conclusion we can draw is that the equity market can be expected to weaken and for money to leave the equity markets for the safety of the bond market. The timing suggests weakness in the equity markets in Q1 2017 and strength in the bond market in Q2 2017. Both could happen earlier and closer together depending on what on known event triggers the correction in the divergence. Whether it is Year Beginning capital gains selling (tax deferral from 2016 gains) and re-positioning, problems in Congress getting fiscally conservative Republicans to accept Trumps fiscal spending plans, Geo-Political problems or China - time will tell.


Smart Traders Are Already Positioning

A careful look at options trading shows a massive amount of call positioning now going on in the 10Y UST for February $126 calls. Major bets are being made for the bond market to bounce as 10Y UST yields fall from 2.55% to 2.00 to 2.05% by the third Friday in February. This would be about th time new congress would be debating the initial 100 day plans laid out by the freshly inaugurated Trump Administrations

US 10-Year Treasury Yield and TLT

TLT Options
Larger Image


Conclusion

U.S. Economic Confidence has now surged to the highest level that Gallup has ever recorded. Additionally, the degree of Investor euphoria that has occurred since Trump was elected is something never seen in prior Presidential elections.

First 36-Days Post Election Performance

Like every good party it eventually ends and the hangover is likely to be a dozy!

Minimally we should see the close in our historical divergence.

Trump Cartoon

 


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Author: Gordon Long

Gordon T. Long
Publisher - LONGWave

Gordon T. Long

Gordon T. Long has been publically offering his financial and economic writing since 2010, following a career internationally in technology, senior management & investment finance. He brings a unique perspective to macroeconomic analysis because of his broad background, which is not typically found or available to the public.

Mr. Long was a senior group executive with IBM and Motorola for over 20 years. Earlier in his career he was involved in Sales, Marketing & Service of computing and network communications solutions across an extensive array of industries. He subsequently held senior positions, which included: VP & General Manager, Four Phase (Canada); Vice President Operations, Motorola (MISL - Canada); Vice President Engineering & Officer, Motorola (Codex - USA).

After a career with Fortune 500 corporations, he became a senior officer of Cambex, a highly successful high tech start-up and public company (Nasdaq: CBEX), where he spearheaded global expansion as Executive VP & General Manager.

In 1995, he founded the LCM Groupe in Paris, France to specialize in the rapidly emerging Internet Venture Capital and Private Equity industry. A focus in the technology research field of Chaos Theory and Mandelbrot Generators lead in the early 2000's to the development of advanced Technical Analysis and Market Analytics platforms. The LCM Groupe is a recognized source for the most advanced technical analysis techniques employed in market trading pattern recognition.

Mr. Long presently resides in Boston, Massachusetts, continuing the expansion of the LCM Groupe's International Private Equity opportunities in addition to their core financial market trading platforms expertise. GordonTLong.com is a wholly owned operating unit of the LCM Groupe.

Gordon T. Long is a graduate Engineer, University of Waterloo (Canada) in Thermodynamics-Fluid Mechanics (Aerodynamics). On graduation from an intensive 5 year specialized Co-operative Engineering program he pursued graduate business studies at the prestigious Ivy Business School, University of Western Ontario (Canada) on a Northern & Central Gas Corporation Scholarship. He was subsequently selected to attend advanced one year training with the IBM Corporation in New York prior to starting his career with IBM.

Gordon T Long is not a registered advisor and does not give investment advice. His comments are an expression of opinion only and should not be construed in any manner whatsoever as recommendations to buy or sell a stock, option, future, bond, commodity or any other financial instrument at any time. While he believes his statements to be true, they always depend on the reliability of his own credible sources. Of course, he recommends that you consult with a qualified investment advisor, one licensed by appropriate regulatory agencies in your legal jurisdiction, before making any investment decisions, and barring that, we encourage you confirm the facts on your own before making important investment commitments.

The information herein was obtained from sources which Mr. Long believes reliable, but he does not guarantee its accuracy. None of the information, advertisements, website links, or any opinions expressed constitutes a solicitation of the purchase or sale of any securities or commodities. Please note that Mr. Long may already have invested or may from time to time invest in securities that are recommended or otherwise covered on this website. Mr. Long does not intend to disclose the extent of any current holdings or future transactions with respect to any particular security. You should consider this possibility before investing in any security based upon statements and information contained in any report, post, comment or recommendation you receive from him.

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