Now that daylight savings time has started, the extra sunshine should shed some more light on the markets. After the latest US employment report, and continued news out of Ukraine, the equity market continued its march along to all time highs. However the reaction was subdued. The real action was in US Treasury Bonds.
After an initial decrease in the tensions in the Ukraine, the market rallied pretty swiftly on Tuesday and then traded sideways while traders awaited the US employment report on Friday. The report was a surprise to the upside. This uptick in employment helps push the needle of the US economy compass to the side of improvement. Although the needle moves at the slightest whim, there is at least the idea that improvements to the economy should be expected. The equity market tried to rally after the report but pretty much fell flat by the end of the day. Economic and employment improvements may ultimately lead to an increased rate of withdrawal or tapering of the Federal Reserve Board’s asset purchasing program. Perhaps without the built in support of cheap financing, the equity market maybe unsure of its direction. Certainly with low interest rates, the equity market is an easy investment choice. However higher interest rates means investors who borrow to invest or trade have to weigh their perceived gains from the stock market against the interest cost of their money. The concept is similar to the purchase of a house or car with a loan. With low loan rates you feel like you get more value and have more money to spend. With higher interest rates and costs, you would analyze your purchase a lot more and spend more carefully.
The beginning of the week is quiet on the economic news front. The expectation of an improving economy should be reflected in Thursday’s US Retail Sales report and the weekly US Jobless Claims. Friday will bring the US Producer Price Index (PPI) report, which if strong, might be seen as a precursor to inflationary pressures. Until those reports are out we may see subdued trading.
The apparent pause in the equity market is allowing the focus to be on interest rate products. Ten Year US Treasury yields have seemed to have bottomed out in the short term. If the opportunity for bond prices to rise ( or equivalently bond yields fall) was not fully utilized by bullish bond investors, it may signal the rejection of higher bond prices in the near term. The weakness of the equity and emerging markets at the end of January along with the Ukraine situation should have given enough liquidity for bond investors to drive prices higher.
The better than expected jobs report did not help the situation for those who are long US treasuries. A quick glance at a chart of rates and you can see the technical patter known as the double bottom appear. The pattern calls for a touch of two apparent bottom levels in a period of a downward trend. Typically this is associated with an increase in the chart levels. In this case you see that rates have headed higher after touching the 2.60 area twice this year. While these patterns do not by themselves guarantee anything, it does put the current bond action in a context.
Chart Courtesy of StockCharts.com
In case you were interested in bond prices, here is a look at the Ten Year US Treasury Note futures. Again we see the bearish sentiment that is equivalent to the appearance of rising interest rates as in the chart above. In the past ten days it is apparent that when bonds were sold, they were sold hard. The rallies were short lived and not very strong. As you can see the red bars are more apparent and larger than the green ones.
Chart Courtesy of TD Ameritade
The Ten Year Treasury Note futures have a lot to prove before they can bought with confidence. First the resistance at around the 124’05 level has to be broken. Then 124’31 would be further proof that the bond market can rally. However, in light of the current environment that would appear to be a challenge. The ETF, IEF, which tracks 7-10 Year US Treasuries should end up between 100.50 and 102.40.
The equity market is a prime candidate for a sideways trade in this environment. The S&P 500 is still at all time highs and has steadily climbed there. This dampens the probability of a sharp upward breakout of the market. If there is one, then it may give rise to sufficient liquidity for determined sellers to step in and bring the market down swiftly.
In any case, this week’s landing spot for the SPY ETF can be between 184.20 and 192.10. The probabilities of the markets shift frequently. Staying on top of the changes makes it easier to make successful trades.
Good luck and trade rationally.