The bond vigilantes were right – inflation is not ‘transitory’ after all

The bond vigilantes were right – inflation is not ‘transitory’ after all

Thursday’s heavily-anticipated US Consumer price report came in on the high side – and stocks plunged.  Note that the Fed has been trying to convince everyone for months that the price rises we are all seeing was ‘transitory’.  Lesson:  Don’t trust the Fed.

But it is obvious what game all authorities play – their mandate is to never frighten the horses especially when the real message is grim. If they did so, that would undermine their authority and sow seeds of doubt in their control.

In fact, as the bear market progresses, many will come to view the Fed as the enemy rather than their friend as previously.  Don’t Fight the Fed will become Be My Guest and Fight the Fed!  

It is often said with a great deal of justification that the bond guys are a heck of a lot smarter than the stock chaps.  Treasury yields have been advancing strongly for weeks (as I have been flagging up here) but that warning was falling on the deaf ears of the perma-bulls (retail and pro).  That is why I was in no hurry to call a major top in stock indexes  (until recently) despite an even louder alarm from the Junk Bond market.

One of my leading indicators for judging the degree of risk on/risk off balance is the High Yield market. These are almost-bonds that are issued by the more risky companies and in an economic downturn, many will go bust and default on their obligations.  They have no place in a prudent investor’s portfolio.  They are set to plunge and take many companies with them.

Here is the index updated from last time

Yields are surging and the critical crossover of the MAs is heralding a major collapse ahead. Incidentally, the bearish crossover the the MACD (bottom chart) flagged up the reversal early last month at the same time as the Dow/S&P topped. And remember, junk trades just like equities.

Now with stock indexes having reversed, how to play it?  There is little doubt the decline will be marked with sharp and brief counter-trend rallies that will set off protective buy stops if placed too close to the action.  That would be devastating since you would be out of a strong trend at its inception.

One of the solutions is to trade smaller than usual and place stops far away.  Here is an example of what I mean with the Dow.  Here is the chart in real time on Friday morning

Currently the Dow is trading at 35,100 after a hard fall on Thursday post-CPI.  And it has met my lower parallel trendline support.  That make a bounce from here quite likely,  But if not, it’s another hard down into next week.  To ensure we have a short position no matter what happens, a short position can be taken here with either a 500 pt or 800 pt stop.

For most accounts, that is a very wide stop.  The only sensible way to trade in these circumstances is to trade very small – say 20% of your usual position.  Unless we get a miracle buyer coming in, those stops should  be sufficient to keep you in the game (but there are no 100% sure things).

Remember, I am looking for several thousand points to the downside before meaningful support is reached. 

Thus, a small short position of say £4 per point would result in a gain of £8,000 on a move down of 2,000 pts.  My risk is 500 x £4 = £2,000 for a 4/1 reward/risk ratio.  Pretty good.

Of course, another way to play it is to wait for a possible bounce of a few hundred pts and short there with a narrower stop.  But unless you are watching your screen all of the time, you may miss a spike up/down and kick yourself for missing that opportunity. Yes, trading is a balancing act!  And if you set limit sell orders above the market, your price may not be reached and you end up with the same result – misery and regret!

For most traders who have real lives, using the wide stop method is probably the most appropriate. 

So what happened after Friday morning when I took the above Dow chart?

Well, Biden rattled a few sabres over Poland – and the algos roared into high selling gear

and the market broke hard below my lower support and closed the week well below it.  Many would view this as heralding a lot more downside next week as the trend is most definitely down. And many would continue to keep shorting.

But hold your horses!  The market has traced out a five down (with a strong mom div on the 2-hr chart) that may have completed.  And if so, a strong upward bounce would likely occur next week instead (as Poland news became less war-like?).  And that would take out many buy stops!

Of course, hard selling may continue into next week as the main trend is down, but the technical picture is now more evenly balanced.  Next week should be exciting.

And one fascinating data point from last week was the revelation that US equity funds saw the record highest inflow from both retail and pro.  Everyone was falling over themselves to buy, baby, buy. All the while, shares were is a strong decline with the US big name techs such as the FANG Gang off by up to 50%. What a striking example of the enduring power of the Buy The Dip mentality that has gripped investors for many months.

And as the market declines, we shall see more forced sellers to add to the bearish pressure.  When the MSM have been converted to hating the stock market, that will be the time to buy.

NatGas plunges 28% in a week

This market has given us wonderful profits in recent weeks, but in just one week, NatGas plunged from 54 to 39. For weeks, the MSM have been crying of the ruinous cost of heating our homes and the ‘certainty’ that cost will rise again and again into the year.  If that was not a signal that the reverse would likely happen instead, I do not know what was.

It appears the UK is bowing to the inevitable by agreeing to re-open the North Sea oil and gas fields in total cotradiction to their stated Net Zero mandate (irony alert!).  That will relieve the pressure on UK NatGas supplies – most of which come over from the USA in the form of LPG at present.  And US prices fell in response.

But the market is at a crossroads.

The rally off last year’s lows as it met my long term trendline would be considered corrective as it has a three up form.  The implication is that prices would move below that line of support (pink marker) and continue to much lower prices.

Alternatively, the rally can be a series of 1-2s leading to the start pf a major wave three of three up.  These are always characterised by very strong upward leaps in the early states.

Thus, we have a definite marker – if the market fails to rally, the bearish option is most likely.  But if we see strong advances soon, the bullish option is on the cards.  We shall soon know.

This is crucial knowledge as it offers two opposing scenarios and we know in advance what to expect from either one.  Only the Elliott wave theory can offer these insights.




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Gold surges – will it exceed $2,000 again?

I have been extremely ambivalent on the direction gold/silver was likely to take.  I see arguments for a bearish outcome and a bullish one.  Perhaps my long-standing chart showing the huge wedge pattern is showing the way ahead.  The PMs surged yesterday which laid to rest some of my bullish doubts.

The wedge pattern is well-defined and yesterday, the $40 surge moved it above the upper line of resistance.  Note the wedge has been forming for 18 months – a considerable time and moving up out would likely take about as long in the final wave 5.  Thus, a move well above the old high at $2,080 appears likely.  The same applies to silver.

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