The correlation between the 5 years T-Note and the S&P 500 is evident, even if sometimes it is not respected so well.
The chart shows the S&P 500 on a daily timeframe (upper chart), the 5 years T-Note yields (in the middle) and the MACD applied on 5 years T-Note yield curve (lower chart) from 2007 to now. You can notice that the T-Note curve often anticipates the future trend of S&P 500. It is quite logical: when investors come out of the market, they buy T-Note, raising its price and lowering its yield. After a while the market, with the money flowing out, begins to go down.
For example, in June 2007 the T-Note curve began to decline, and the market, after a double top at about 1550, began to go down sharply some months later. Then at the beginning of 2008, the T-Note curve began to raise and the market strictly followed this trend, until June 2008. At that time, the T-Note curve marked a top, and began to sink again. The market, after a small rebound, followed again the curve and went down steeply during the Lehman mess. At the end of 2008, the T-Note curve began to raise, while the market finished its downtrend with the last leg down in March 2009. Soon the market re-aligned again with the T-Note curve and raised until April 2010, while the T-Note curve was quite stable around its moving average.
Then from April to November 2010, an exception occurred: the T-Note curve was going down, but the market did a sort of V-shaped inversion caused by the QE2 announcement. Then from December 2010 to April 2011, the correlation worked well, again: market up along with T-Note curve.
From April 2011 to now, the T-Note curve has constantly gone down. From July 2011, some months later than April 2011, the market followed, producing a steep decline which is not yet over.
In conclusion, it is evident that the investors are still selling risk (stocks) and buying safety (bonds), according to a strong correlation which stopped working only during the QE2 exception. Now the 5 years T-Note yield is at a historical low, near 0.80%. The break of 0.80% yield on the downside would confirm that the bear trend in the T-Note yield and in the market is still in place.
[Click to enlarge]