A Tale of Two Bonds
It was the best of times, it was the worst of times. It was the age of bullishness, it was the age of bearishness… (as Charles Dickens almost wrote).
On Thursday, Carney unleashed his version of the Big Bazooka by lowering UK Bank Rate and oiling and then re-starting his printing presses to buy oodles of gilts and now corporate bonds to add to his already mammoth stockpile..
Inevitably, this sent UK gilt yields plunging (prices up) as traders had visions of Carney’s big fat finger stuck on the Buy button for months to come. The front-runners had a field day. Here is the chart of Long Gilt
On Thursday, prices moved into new all-time highs above the nosebleed 131 level.
Then yesterday, the US non-farms was released and was instantly interpreted as very bullish for shares and the economy – and increased the likelihood the Fed would increase Fed Funds sooner rather than later. This is how the T-Bonds reacted:
The market sold off heavily back into chart support. Remember, I have named T-Bonds as one of my Trades of 2016.
And with US rates about to turn up (see my forecast in blogpost of 19 July) and UK rates down, we have a huge divergence opening up. And that divergence is about to get wider – and will impact cable in a big way. My long-standing view has been that GBP/USD is in a long-term downtrend and should head towards dollar parity (with intervening rallies, of course). My main target in the meantime is the 1.14 area.
It seems Carney is hell bent on supporting share prices and driving sterling lower to help exporters. It is not about forcing consumers and companies to go out and spend, spend, spend. The UK has a huge current account deficit and with a weaker pound, it is destined to get wider – much wider. In the short term, this will push up consumer inflation – and increase inflation expectations to the point where the gilt market will get a Wile E. Coyote moment – and sink hard.
But for now, everyone expects UK rates to go even lower – even the BOE says so, so it must be true, right?
One of the reasons I forecast the top in T-Bonds last month was the extreme bullish sentiment as measured by the DSI data where bulls numbered 96% of market professionals. Sadly, there is no equivalent sentiment measure for UK gilts, but I imagine bullish sentiment is likewise at or near an extreme. This is a recipe for a ‘surprise’ downward lurch at some stage, according to my Law of Extreme Sentiment.
German DAX thrusts higher
We have been long DAX for a few weeks based on my reading of the EWs. The market has pulled back from its highs of 12,400 in March last year, but into solid chart support. And the decline can be counted as a large A-B-C correction. I also have a good tramline pair working. Here is the weekly:
From the C wave low, I can count a possible waves 1 and 2 (purple), but to confirm, I need to see a strong thrust above my upper blue tramline just ahead.
But this area is also a Fibonacci 50% retrace of the entire move off last year’s high – a formidable area of resistance. But if we do have a genuine third wave up, then it will take out this resistance swiftly. The test lies directly ahead. A failure here would imply the rally is not a five up, but an A-B-C and the next move will be down.
Silver is up – then down
I noted the textbook wedge with five clear internal waves and the classic upside break on 27 July and forecast a thrust up. That certainly occurred, but significantly did not make a new high:
But the thrust did form a classic ending diagonal on a momentum divergence – and that was the signal the rally was ending.
With yesterday’s 50 cent swoon, market is now heading for the classic retracement which is back to the apex of the wedge. But the move down in gold and silver yesterday after the non-farms was at variance with the Dow/S&P.
The latter moved sharply higher, despite the outlook for higher rates, whereas PMs did the opposite. In general, silver (a mostly industrial commodity) follows stocks – but not yesterday. Perhaps this disconnect is significant – and heralds an imminent top in stocks.
So may be we shall see such a move down in shares that will satisfy my long-held wish to see bonds and stocks decline together. After all, bullish sentiment towards both assets remains sky-high.