On the Brink of the Edge of a Precipice! (TLT,HYG)

There’s no question we’ve reached a breaking point.  The market is overbought by all the standards we regularly employ to measure it – and still it hasn’t cracked.

Why?

Talk of a trade deal has been supportive of stocks for close to ten weeks now – with the “we’re almost there” mantra getting re-hashed every time the dam shows signs of splintering.

Sensurround!

Friends, there’s what’s good and healthy for the market, on one hand – and there’s what it does, on the other.  A retreat at this point of some five to ten percent would send a chill through the hot money that’s been chasing the indexes and selling volatility for the last six weeks.  And that would certainly flush some of the weaker hands clear of their holdings – a healthy development, in our opinion, to be sure.

On the other hand, that medicine may not be on offer.  With the trade tariff deadline of December 15^th hovering over us, and Sir Trumpa Claus wanting badly to provide a holiday treat for investors, we might see a partial deal signed just to take the steam out of the Democrats’ impeachment caper.

Indeed, new highs on the indices would provide positive headlines and bragging rights for the White House and make everyone feel good going into the New Year – even if the bottom fell out a month later.

On the other hand, a bad news market over the holiday season could leave a lasting negative impression well into spring, and cause the Trumper a doozy of tummy ache going into the final campaign stretch – even if a warm-weather deal with the Chinese does get signed and gooses the markets through summer and fall.

So what happens now?

Hard to say.

All the more so, because after all the hype, it’s equally likely we’ll get a ‘sell the news’ event once a trade deal is signed, whether it comes now or later.

Hmm…

So what to do?

Our feeling is this hand is best played like Skip Jackson did back in the ’83 World Championships of Poker “Fracas in Caracas”, a tourney that featured some of the best Russians in the Bicycle Deck for the first time since the Bolsheviks jailed half of Europe.

What’d He Do?

Skippy decided to employ an aggressive pre-flop strategy that eventually stopped him bleeding chips from the small blind.

Got that?

Or, to put it into stock market parlance, Doc Jackson took one side of the bet and went with it in guarded fashion.

And that’s what we’re doing today.

Risk On or Off?

We’re going to play the possibility of an upside move in stocks by using high yield bonds instead.  We’re doing it because as an asset class high yield moves off its underlying equity position rather than trending with Treasuries.

And this is how junk looks today –

As you can see, we have positive technical action in the form of –

1. A broad “scoop” from the long term moving averages (in blue) that underpins price in the $85.70 vicinity, and
2. Either an ascending triangle or pennant formation (in red), both of which are continuation patterns – and in this case, that’s continuation ‘bullish’.

We would add, too, that the action on the MACD indicator – what we call ‘flatlining’ (in green) – is indicative of a coming, significant break in price.

And we’re recommending that break will be northward.

But We’re Not Going Solo

In the battle between those who would assume risk and those more averse, the charts today appear to favor the risk-takers.  So not only does junk appear poised for a rally, but the long bond, safe haven of choice for the planet’s scaredy-cats, now looks ready for a spill.

Take a peek –

This is the iShares 20+ Year Treasury Bond ETF (NYSE:TLT) for the last half year.

• Notice, first, the declining triangle (in red): bearish action that mirrors exactly the bullish formation on HYG, above,
• See, too, how price is currently dangling at the all-important 137 day moving average (circled, in blue), and appears poised to slice below,
• Third, we have both RSI and MACD indicators submerging below their midway waterlines (black, at bottom), a development that unto itself should shortly trigger significant technical selling.

To wrap, it appears that

With kind regards,

Hugh L. O’Haynew

Follow @HughLOHaynew