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Follow the Bonds - S&P 500's Direction Is Down

How High Can a Dead Cat Bounce?
Putting the anemic volume aside, yesterday’s rally was a good showing for the S&P 500.  However, having been born of oversold conditions and fed by a lack of uncertainty, I think it is more likely to be a temporary condition.  If so, it looks like the index could stretch for between 1,120 and 1,130 or about half of the index’s drop made in the second leg of May’s decline from 1,172 to 1,068.  This depends, of course, on the continued absence of macro-blowups or even hiccups.  The minute uncertainty is remembered, any uncertainty, the cat is coming down.

Follow the Bonds

Someone, who I consider to be very wise with a great deal of experience and who happens to hold an opinion opposite of my own, said months ago, Follow the bondsthey will determine the direction of the stock market

Credit Market Cracks Continue
Two weeks ago, I wrote, “While stock investors have been taking a bit of an upward breather, the credit markets are starting to choke.”

I went on to write, “3-month LIBOR shot up again in perhaps an ominous sign that banks are becoming more reluctant to lend to each other again.  This fear, or lack of faith, was one of the hallmarks of the fall of 2008 and its reappearance should not be taken lightly, in my view.  In fact, it should be taken rather seriously and if it persists, it should be taken as a harbinger of more of that volatility ahead.” 

Unfortunately, the credit markets are cracking further apart as spreads of all sorts – TED, OIS, high-yield, high-grade corporate – have widened, signaling distress in the money markets and in the risk appetite of investors. 3-month LIBOR has moved up significantly 10 basis points in 2 weeks to 0.538 which is significant but rather than focusing on the number, I think it is more useful to focus on the message: fear is “moving up and faith is “moving out”. 

And so, if we follow the bonds, or more precisely the movement of the credit markets, the future of borrowing and lending as seen today and thus the future of economic growth, we are reminded that the direction of the stock market, the primary trend, is down.

The Bear Flag Is Broadening
The structure that has been forming in the S&P 500 since May 21 has gone from looking like a bear flag to either a broadening bottom or top.  Either is preceded by a steep decline on strong volume, similar to a flag, but then forms into a megaphone shape with higher highs and lower lows.  It’s tough to say what the technical target would be right now since it is the distance between the highest high and lowest low dropped down.  It will be more forgiving than that of the flag or about 965.  Regardless of what the formation is exactly, the bear is saying hello.

(Please visit to see this chart.)

Sam’s Stash, Gold, and the S&P
Even with the S&P 500 flirting with its 200-day moving average, I think the near-term, intermediate-term and long-term trends of the index are the same: down. 

(Please visit to see all of the charts.)

I continue to believe that an agreement between the near-, intermediate- and long-term trends in the S&P 500 confirms that we are in the worst bear market of our collective lifetime.   I strongly believe that the investment message born of this convergence is: get out of the stock market.  

Yesterday’s rally presents a great selling opportunity to investors.  Negative macro-factors and tremendous uncertainty will far outweigh any positive micro-factors or temporary relief.  Traders and investors alike do not like uncertainty and the solution to it is selling not buying.  Again, I strongly believe we’re looking at a selling opportunity here and I continue to think that a close below 1,057 will prove that to be true.

Moving on to Treasurys, I continue to believe, as I have been writing for a couple of months now, that the 10-year will stay below 4% and move closer to 3% in response to the sovereign-debt crisis.  This will remain the case until the crisis turns its head back to the U.S. when investors will demand a significantly higher yield to become involved with U.S. debt.  Until then, Treasurys are a good place to tread water.

And lastly, it looks like gold remains the co-king of asset classes with a nice rebound this week.  Cash, of course, is the other. 


As always, thank you for taking the time to read this week’s piece.