The Yield Curve and Investor Sentiment (Part III)

In the prior two segments we looked at the yield curve from a fundamental perspective. This is very useful and provides context for what drives short term and long term yields over time. However, we can also watch for changes in the yield curve on a shorter term basis using technical analysis. In this case, what we are looking for are changes in the yield curve that would indicate a shift in investor sentiment. A shift in investor sentiment will impact the stock market and can be used to adjust portfolio risk control measures.

One of the simplest types of analysis we can apply is to measure the relative change between long term and short term yields. For example, if rising long term yields relative to short term yields are bullish, then the stock market should improve in value. The more dramatic that change in relative values is the more important the subsequent affect it should have in the stock market.

In today's video I will walk through applying a comparative relative strength analysis on short term yields represented by the 13-week yield index [IRX] and the 10 year yield index [TNX]. I will show how a sharp positive change in the relative performance of long term yields is correlated with a bullish change in the stock market. This is helpful because the accompanying change in investor sentiment should indicate increased risk for short traders or bears and potential entry opportunities for long investors and bulls.

Are you an investor in fixed income? What do you think about the future of bonds?

Comments

[whidbey:]

Your attempt to correlate the curve to sentiment is not new or very useful since the exceptions are so numerous and well known. In general the things driving bond values are the liquidity differential between treasuries and investment grade bonds, and the short end is pushed around by the lack of markets for commercial paper, and bank credit facilities. Knowing that I think putting much faith in the choices made by investors is nonsense. In a fully function market in more normal times your speculations might be worth considering. As it is now you are just playing word games.

2008 Aug 28 01:26 PM

[dc1:]

Thanks for the info and the video.

2008 Aug 29 01:36 PM