Please Note: Blog posts are not selected, edited or screened by Seeking Alpha editors.

Are Bond Buyers Still Negative On Stocks?

|Includes: SPY, TBT, iShares 20+ Year Treasury Bond ETF (TLT)

Stocks remain choppy as bulls and bears fight for the upper hand, but bond market pros are sending the same message as in April, which presents an opportunity in a popular Treasury ETF.

In early May, I discussed the NOB spread, which is followed by many bond market pros. I noted that as stocks were peaking in early April, bond traders were buying bonds and shorting ten-year Treasury notes, expecting rates to drop as investors moved out of stocks and into the safety of the Treasury market.

The rationale was that yields on the T- bonds would fall more than those on T-notes, thus causing the NOB spread to widen and giving a profit to those buying the spread. This created a good buying opportunity in bond ETFs like the iShares Barclays 20+ Year Treasury Bond Fund (TLT).

My analysis of T-bond yields at that time indicated that a drop in yields below 2.875% would "project a drop to the 2.20%-2.30% range, which would imply a very weak economy." After the yield closed Wednesday at 2.71%, what are bond buyers doing now?

Click to Enlarge

Chart Analysis: The current chart of the NOB spread shows that it spiked to a high on June 1 before reversing course. The spread has doubled since early April.

  • The spread is holding above its 20-day exponential moving average (NYSEMKT:EMA) and the uptrend, line d
  • The spread formed higher lows in early April, line c, when the Spyder Trust (SPY) was making higher highs
  • This bottoming formation was confirmed by the move in the spread through its downtrend, line b
  • If SPY should drop back to or below the lows at $127.14, the NOB spread could form lower highs, which would be consistent with a bottom in stocks
  • A break in the NOB spread below the mid-May lows will suggest the spread has topped out

The daily chart of Treasury bond yields ($TYX) shows that support, line f, was broken on May 8. This was followed by a May 17 decline below the stronger support, line g, in the 2.86% area.

  • The 127.2% Fibonacci retracement target from the continuation pattern at 2.53% was hit on June 4
  • Completion of this pattern has additional downside targets in the 2.23% area
  • There is strong resistance in terms of yield in the 2.80-2.90% area

Click to Enlarge

The iShares Barclays 20+ Year Treasury Bond Fund (TLT) broke through its downtrend, line a, on May 15 and accelerated to the upside. TLT hit a high of $130.38 on May 31.

  • The recent pullback has taken TLT back to support in the $124.40 area and the flat 20-day EMA
  • Further support is at $122.60, which is the 38.2% Fibonacci retracement support level
  • Relative performance, or RS analysis, bottomed on May 7 when the downtrend, line c, was broken. It is still positive
  • On-balance volume (OBV) bottomed in April when it moved through resistance from late 2011, line d
  • OBV confirmed the recent highs and is holding above its rising weighted moving average (WMA)
  • Weekly OBV (not shown) is also positive and is well above its weighted moving average
  • Using the correction from the highs, the 127.2% Fibonacci target is just above $132

The ProShares UltraShort 20+ Year Treasury ETF (TBT) is a double inverse of TLT. The fund broke support, line e, on April 10 and then retested the breakdown level at the end of the month before collapsing.

  • TBT has bounced back over the past week, reaching the declining 20-day EMA at $16.25, although it shows no signs yet of bottoming
  • The 38.2% retracement resistance is at $17.30
  • Daily OBV broke its support, line f, in March and lead prices on the downside
  • There is minor support now at $15.34-$15.40 that, if broken, could signal that the rebound is over

What It Means: My in-depth technical appraisal of the stock market suggests that the market is in the process of bottoming. However, it looks as though bond traders are still negative and looking for a drop back to or below the recent lows.

A short-term trade in TLT could be used to hedge some of exposure to the stock market.

How to Profit: Aggressive traders should buy the iShares Barclays 20+ Year Treasury Bond Fund (TLT) at $125.66 or better with a stop at $121.93 (risk of approx. 3%). Cancel the order if $127.10 is hit first. Sell half the position at $129.76 or better.

Portfolio Update: Buyers should be 50% long TLT from May 10 at $117.93 with a stop at $121.92. Half the position was sold at $124.73.