Charles Schwab - The Harbinger Of The Next Crisis?While I believe that the markets are currently standing on the edge of a cliff and will not produce a new all time high, it's very important to note that price action is yet to confirm that, with the most significant catalyst of them all being Wednesday's FOMC.
Wednesday's FOMC is important because whether the Fed hikes again and how much they hike will determine what happens with bond yields, which determines what happens to bond prices (inverse correlation), which determines what will happen with the U.S. Petrodollar.
There's no FOMC again until September.
I discuss what I think will happen this week in the following call:
ES SPX Futures - Welcome to FOMCmageddon
Charles Schwab is an important piece of the U.S. banking structure because it's the 10th largest bank in the country.
When you take a look at recent price action on banks, everything seems to be going pretty well, and it's almost as if the Silicon Valley Bank crisis never happened.
SIVB's demise, however, was a really significant canary in the coal mine because that particular bank was not only one of the largest in the country, but a major intermediary between the West's venture capital community and the Chinese Communist Party.
You just absolutely have to keep an eye on what's going on with China and the International Rules Based Order right now, because everything "Taiwan War" is really talking about how the globalists can take control of China as the CCP falls.
Based on this, I think Taiwan Semiconductor is a significant long hedge right now because it's not a component of the U.S. indexes, and is a world leader in silicon wafer production:
TSM - Taiwan, Your Semiconductor Long Hedge
China is the world's 5,000 year country and has huge natural resources and a huge population of very sophisticated people, so it's a target.
If Xi Jinping is smart, he will weaponize the 24-year persecution, organ harvesting, and genocide against Falun Dafa's 100 million believers to protect himself and the Motherland.
But if he does this it means that the entire world will quickly be implicated in the Nero-like persecution of spiritual cultivators of an upright faith. The impact on the markets, our society, and our reality will be extreme.
And oh so hard to bear.
I can only say if you want to be long at this point, you need to be hedged long on volatility or you might die.
VIX - The 72-Handle Prelude
The enormous Schwab dump from March, which you primarily see was a fully manifested failure swing only on the monthly bars:
Was spurred on by the banking crisis, which served as a prelude to the very significant bear market rally we've had.
Now everyone believes new highs are in order and everything is going to be fine. It's time to go long, go on vacation, and collect money while being hammered in a speedo at the beach with the other men.
What a painful hangover.
The problem with the more up more right now crowd's thesis on Schwab is that the entire range above where we're at, and we're already flirting with the 79% retrace of the March gap down, was already filled, which we see on the weekly:
Moreover, there are two significant price action problems with the bull case from a market maker perspective.
The first is that Schwab dumped to exactly $45.00 in the first place. Computers don't like preserving round numbers and people just love to put stops under/at psychologically significant whole numbers.
The second is that the COVID dump was likewise $28.00. And for the same reasons, that's even more dangerous.
I am predisposed to believe that Schwab is likely to be the next Credit Suisse-style big short, and may even be the vanguard for the next crisis that would take us under SPX 4,200 and towards 3,700 in accordance with the new JPM collar, which I discuss below:
SPX/ES - An Analysis Of The 'JPM Collar'
As for what the fundamental story will be, it's very hard to say.
But let's compare Schwab's monthly bars you see above to some other top 10 banks:
Bank of America Monthly
Does not show any indication of failure swings and really just looks like a healthy retrace.
While Wells Fargo does not look strong enough, it also does not yet indicate a real short setup on higher time frames
And this is even more true for JP Morgan
And Goldman Sachs
Which can be, at worst, only be said to be setting up for the first leg of a failure swing. At worst.
And thus it is extremely notable that Charles Schwab is as weak as it is.
My call is the thesis that the optimal short entry is already here, with some kind of flirtation with the $70.00 mark due for FOMC.
And if Schwab and the banking sector and the equities sector are truly bullish, that would be great, but I still expect a stab back into the "wick play" area before it would move to set a new all time high, which means $69 to $50 is really quite the win if you're short and quite the loss if you're longing the top or haven't taken profits.
If Schwab and the banking sector are really the catalyst for something as disastrous as Nasdaq 9,000, then the target is under $28 and you're more or less standing on the edge of The Big Short.
Right now, with the VIX as suppressed as it is and price as high as it is, January '25 $55 puts are only $3.7~ with at the money puts being $8.3~
Just selling them on a flirt with $50 again, let alone $44.99, is already a big win.
Humans never believe in anything until they can see it. It's one of their worst deficiencies.
Corporatebonds
$HYG setting up for a H&S breakdown? Corporate bond blowup?$HYG looks like it's about to fall.
There's a H&S pattern forming on the 4Hr timeframe and price just rejected the 200DMA.
Should price break support at $73.05, I think we'll see a quick move down to the $69 region, maybe even lower.
I've taken some puts just incase this plays out.
HY-IG OAS Spread Significant Negative CorrelationHY= high yield option adjusted spread
IG= investment grade option adjusted spread
HY-IG Option Adjusted Spread showing significant inverse/negative correlation to the S&P500.
When the HY-IG spread (white) rises we see the S&P500 (yellow) fall. The inverse is also true. Spread is currently trending down and SPX is rising which could be indicative of a short term shift towards a ‘risk on’ sentiment.
Were the HY-IG spread’s trend to shift directions from down to up, we could infer that SPX would shortly after begin to trend in the opposite direction based on recent behavior. (not financial advice)
Corporate Credit Conditions: Part 4In part 4 we look at the all in yield of investment grade (IG) and high grade (HY) credit, and why, despite OAS spreads resting at long term median, there still may be considerable investment value in the all-in-yields of short to intermediate maturity IG notes and ETFs. Understand, this discussion does not constitute an investment recommendation, only an illustration of a portion of my corporate investment and evaluation process.
The yield of a corporate security is primarily comprised of two elements, the base rate and the credit spread. The base rate is the treasury rate (either real or extrapolated) at the matched point of the yield curve and the credit spread is the compensation for the higher default risk and the occasional periods of higher than normal volatility. The combination of the two is the all-in-yield.
In other words, when you purchase a corporate bond, you receive a base rate (the risk free treasury rate) instrument with a compensatory credit spread. In most periods, the yield premium serves to reduce the volatility of the corporate compared to the treasury. In other words, corporate returns are generally driven by changes in treasury rates. There are exceptions. In 2008 all-in-yields rose sharply (to all-time highs) even as rates fell. In this period, the widening was entirely due to widening credit spreads rather than rising rates. The sharply wider credit spread reflected fear of massive defaults (which were not realized).
Currently the ICE BofA Investment Grade Corporate Index (C0A0) all-in-yield is 6.24%. This for an index with an 8.3 year duration. This is the highest all-in-yield since June 2009 and picks up roughly 244 basis points (bps) to the duration matched point on the Treasury curve (extrapolated from the US Treasury daily par curve). When adjusted for expected default and downgrade risk, the all-in-yield is attractive, even given the growing evidence of a new downgrade cycle.
Unfortunately, the index (and LQD) has a duration over 8 years. This implies that for every 100 basis point increase in yield (whether driven by increases in yield or spread), that the investment will lose roughly 8%. Clearly, an investment in the IG index has a tremendous amount of rate risk. Assuming another 100 bps increase in Treasury rates and perhaps 100 basis points of spread widening implies a roughly 16% decline (8 year duration, x 200 bps higher in yield), consuming three full years of yield. Unless you believe that yields and spreads have peaked, there is considerable risk in the trade.
Due to the flatness of the curve, front end corporates with their much shorter durations offer much better risk reward profile. For instance, the effective yield of the 1-5 year investment grade index (CVA0) is 5.38% and the duration is only 2.65 years. In other words, only a 100 bps give in yield with only about 1/3 of the rate/spread risk. If the combination of five year rates and spreads increase 200 bps over the next year, the -5.3% implied price change would consume only one year of the investments yield. Anything less than a cumulative 200 bps would produce a positive nominal return.
High yield with its shorter duration (roughly 4 years) and at major resistance in the 9.5% range is also interesting mathematically. The beginning yield of 9.5% provides tremendous cushion against the combination of rising base rates and widening credit spreads. Extrapolated over two three and five year periods, losses and defaults would have to be extreme to create negative period returns.
Once a fundamental relative value proposition is reached, traditional technical tools can be employed to design a trade and set risk management levels. Throughout this series we have made the case that the largest driver of corporate returns is the change in treasury rate. Begin by assessing the treasury charts (in this case 2 and 5 year Treasuries). After assessing those charts, move to more specific corporate charts. Begin by looking at broad index yield and OAS charts and then drop directly to charts that more closely resemble the proposed trade in terms of duration and credit quality. There are investment grade and high yield ETFs and funds available in most ratings and maturities.
And finally, many of the topics and techniques discussed in this post are part of the CMT Associations Chartered Market Technician’s curriculum.
Good Trading:
Stewart Taylor, CMT
Chartered Market Technician
Taylor Financial Communications
Shared content and posted charts are intended to be used for informational and educational purposes only. The CMT Association does not offer, and this information shall not be understood or construed as, financial advice or investment recommendations. The information provided is not a substitute for advice from an investment professional. The CMT Association does not accept liability for any financial loss or damage our audience may incur.
Corporate Credit Conditions: Part 3As discussed in part two (prior installments linked below), the duration mismatch between LQD and HYG renders the ratio useless as a tool to assess credit distress or changes in investor preference. Credit ETFs, must be compared to a duration matched ETF, Treasury security or index to be useful.
There is also the difficulty in comparing spreads across investment cycles. For instance, credit quality across both investment grade (C0A0) and high yield (H0A0) indexes have changed significantly over the last three years. During the pandemic recession over 200 billion of investment grade (IG) debt was downgraded to high yield (HY). This improved the quality of IG, making it less susceptible to a downgrade cycle. Additionally, the debt refinancing wave of the last three years left record cash on IG balance sheets, sharply reducing their need to issue new debt into the higher rate environment. In fact, IG interest coverage is at a record high of 12.8 times. The combination should result in significantly less IG spread widening than in past recessions/downgrade cycles.
A way to monitor risk preferences is to utilize the arithmetic difference between HY and IG OAS. The idea is that as investor preferences swing between risk on and risk off, that the spread between the risk premiums will reflect this. If credit conditions are deteriorating, the spread will widen as investors demand a greater risk premium. When the Fed began tightening the spread was 226 basis points (bps). The initial surge peaked in June at +529 bps and has now narrowed to 339 bps, only 113 bps higher than the start of the year. Viewed in this manner, it is again hard to see why the Fed would be overly concerned.
To place this spread difference into historical context I again plot 1 and 2 standard deviation bands around the regression line. Its not surprising that with both IG and HY OAS at their historical mean (see parts one and two) that the spread would also be at its historical mean. Again there is little in the data that would suggest that the Fed should be alarmed with credit or suggesting that there is compelling investment value.
In the final part of this series we will examine the extremely high all-in-yields of IG bonds and use traditional technical methods to reach an opinion on BBB (the lowest rung of IG) credit.
And finally, many of the topics and techniques discussed in this post are part of the CMT Associations Chartered Market Technician’s curriculum.
Good Trading:
Stewart Taylor, CMT
Chartered Market Technician
Taylor Financial Communications
Shared content and posted charts are intended to be used for informational and educational purposes only. The CMT Association does not offer, and this information shall not be understood or construed as, financial advice or investment recommendations. The information provided is not a substitute for advice from an investment professional. The CMT Association does not accept liability for any financial loss or damage our audience may incur.
Corporate Credit Conditions Part 1Since credit has far greater potential to create systemic issues than does equity, corporate credit conditions are much more important to the Federal Reserve (Fed) than changes in equity prices. If you have interest in macro, monitoring and understanding the basics of corporate credit is a must have skill. If there is any one thing that might actually cause a Fed pivot, it is disfunction in this market.
There is a significant amount of current commentary around the sharply higher all-in-yields of high yield (HY) and investment grade (IG) corporate debt. In most cases the pieces conflate extreme price weakness in the large credit ETFs (HYG & LQD) with credit distress. Most pieces seem to conclude that the declines are linked to declines in credit quality and highlight financing problems in the sector. Most of that commentary suffers from a misunderstanding of the relationship between credit and Treasury spreads, what the price declines/yield increases are communicating about macro conditions, and how vulnerable companies, particularly IG companies, are being forced to refinance into a higher rate environment.
In February 2022 I published a piece on credit conditions that covered using the TradingView platform to monitor secondary market credit spreads and conditions, why the declines in most credit ETFs had nothing to do with credit quality, and the basics of monitoring credit on the platform. That piece is linked below.
The short course: 1) Corporates trade at a yield spread to treasuries. The spread compensates the corporate debt investor for the higher risk of default. 2) If Treasury yields rise, their dollar price declines. Since corporates trade at a yield spread to treasuries, if treasury yields rise, so do corporate yields (prices decline). 3) Since corporate spreads are generally far less volatile than Treasury yields, in most time periods, corporate total returns are driven by changes in Treasury yields rather than changes in corporate spreads. 4) The lower the credit quality, the wider the spread or default compensation. For instance, BBB rated corporates have more credit risk and thus more spread/yield above Treasuries than A rated bonds, 6.27 verses 5.65%. The difference of 62 basis points is the markets compensation (risk premium) for owning the riskier bond.
The chart is a weekly chart of the option adjusted spread (OAS) of the ICE BofA Corporate Index back to the 1997 index inception. OAS is the standard way of assessing the credit spread compensation over and above the Treasury rate. The higher the OAS, the more compensation the investor receives. The bands are plotted 1 and 2 standard deviations above and below the from inception date median value. The large spikes higher in 2008 and 2020 are the great financial crisis and the pandemic. Spread compensation is only now back to the long term median. This after spending most of the last decade trading nearly a standard deviation rich to the long term median. I view this as the residual of the Feds QE translating to richer than normal asset prices.
In short, there is no evidence of credit distress in the broad IG market. There is also, at least in this chart, no compelling value argument to be made. However, credit spread is only part of the equation. Remember that corporate total returns are more a function of changes in base or treasury rates than in changes in corporate spreads.
In the next installment we will focus on the IG and HY markets in detail, some fundamental observations and finally, the correlation between rates and the major credit ETFs.
And finally, many of the topics and techniques discussed in this post are part of the CMT Associations Chartered Market Technician’s curriculum.
Good Trading:
Stewart Taylor, CMT
Chartered Market Technician
Taylor Financial Communications
Shared content and posted charts are intended to be used for informational and educational purposes only. The CMT Association does not offer, and this information shall not be understood or construed as, financial advice or investment recommendations. The information provided is not a substitute for advice from an investment professional. The CMT Association does not accept liability for any financial loss or damage our audience may incur.
Why Corporate Bonds are not a good option for Retail InvestorsCorporate bonds or tradeable debt instruments issued by corporations are a type of fixed income security. Given the recent media attention and the rising demand for fixed income investments among retail investors, it may come as a surprise that they are not suitable for all investors. Corporate bonds have different risks associated with them than other fixed income investments like savings accounts, money market funds, and even municipal bonds. If you are considering investing in corporate bonds or are already holding some in your portfolio, here is why you should avoid them as a retail investor
What is a Corporate Bond?
A corporate bond is a debt instrument issued by a corporation to raise money. Corporate bonds typically have a set maturity date after which the outstanding principal will be repaid. There are many kinds of corporate bonds, including investment grade and high yield, government and non-government, and they can be issued in local or foreign currencies. Corporate bonds are often traded on the secondary market, which means they are liquid and can be bought and sold easily. Investors earn a return on corporate bonds by receiving interest payments and by the increase in the bond’s value as it matures. The interest rate on a corporate bond is based on factors like the company’s credit rating, the length of time the bond is outstanding, and the bond yield in the market at that time. Corporate bonds are typically less liquid than stocks, and may have shorter holding periods, especially if you purchase them on the secondary market.
Risks of investing in Corporate Bonds
Corporate bonds are considered a form of debt financing, and as such, there are risks associated with holding them. The main ones are default, liquidity, and interest rate risk. - Default risk - Investing in corporate bonds entails the risk that the issuing company will default on the payment of interest or the repayment of principal. However, since corporate bonds are issued by companies in different industries, there is a low probability that they will all default at the same time. - Liquidity risk - The risk that you will not be able to sell the investment in a timely fashion at a price that is attractive to you. - Interest rate risk - The risk that if you hold the investment until maturity, you will earn a lower rate of return because interest rates will have risen in the meantime.
Why you should avoid Corporate Bonds as a Retail Investor
While corporate bonds may be suitable for institutional investors, they are not a good option for the average retail investor. For one, you will have to educate yourself on the various types of corporate bonds, their risks and returns, and what kind of companies you should be investing in. Even if you are successful at taking this on, you are likely to end up with a very concentrated portfolio, which brings us to the next problem. The other issue is that retail investors typically hold a small number of bonds and these bonds are often concentrated in a few issuers. This is not a good strategy because if a company defaults, you could lose a large portion of your capital. This is clearly a bad strategy.
So, How about Investment grade debt ETFs?
LQD, In a rising interest-rate scenario. The bonds' tenure is clearly working against them, especially since unemployment continues to fall at an astonishing rate. This is not the time to invest in this ETF if the Fed raises interest rates to combat inflation.
In order to completely comprehend this analysis we must know how important the duration is, while investing in bonds.
Duration is an important topic. It is the bond's effective maturity, which means it is oriented to something lesser than the time of the bond's final payment since part of the bond's value, generally from coupons, happens earlier in the bond's existence. If a bond has a longer effective maturity at a fixed interest rate, it indicates that investors are tied to an interest rate that was once market for a longer period of time, and if rates increase as they are currently, you will be bound to an uneconomical rate for a longer period of time. Simply put, longer term bonds lose value more severely when interest rates increase.
How maturity of a these bonds (Duration) is affecting LQD
Unemployment has gone down despite the increased rates, which has surprised many analysts. The Phillips Curve is back in force, where low unemployment yields high inflation if inflation is kept down, and contrary to common perception, Consumer spending has declined, but unemployment is so low that it might rise again unless the Federal Reserve, which is committed to lowering inflation, continues its anti-inflation campaign. The Federal Reserve has raised rates as well as given gloomy recession predictions, and more banks are following its lead, including the Bank of England. LQD, which has dropped 14% this year, have long-duration bonds, majority of fixed-rate, which is concering for this ETF.
Credit Spread
Global Cooperate Bonds in general
Corporate bonds continuing their strong performance in July, producing $80 million (+76% year on year). July was the most profitable month of the year for CBs . Their revenues in 2022 have exceeded from 2021 ($512 million). Average balances increased by 9.8% year on year, average costs increased by 59% year on year, and usage have increased by 27% year on year. Spreads on non-investment grade and high yield bonds continue to widen as corporate prospects deteriorate owing to weakening consumer demand and stricter financial conditions. In-turns , asset values fall, yields rises, and borrower demand increases. However, CG Debt funds have seen the highest monthly outflows in May and June (-$73.7 billion)
In July, High Yield Bonds enjoyed the relieve rally.
Interest rates vs Corporate Bonds comparison
Alternatives to Corporate Bonds for retail investors
For retail investors, the most advisable option is to go with government bonds. Government bonds have historically offered a lower risk profile compared to corporate bonds. The best way to go about investing in government bonds is to go for a diversified bond fund. Using a bond fund reduces the risk associated with investing in bonds further as the fund manager may hold a large number of different bonds. If you are looking at a short-term investment horizon (less than 10 years), then you could also opt for short-term government bonds. If you have a long-term horizon, then you could consider a long-term government bond fund. Savings accounts, money market funds, and short-term government bonds are very liquid forms of low risk investment options.
Conclusion
It is important to understand that the corporate bond market is not risk-free. When interest rates are rising, corporate bonds are generally falling in price as they are competing against government bonds with lower interest rates. In times of economic uncertainty or when interest rates are rising, the risk of default is generally higher for companies issuing corporate bonds. Thus, it is advisable to invest in corporate bonds only when the economy is growing steadily. For retail investors, the best options are to go with government bonds or short-term government bonds. These are low risk, liquid investments and will help you achieve your financial goals.
Have corporate bonds bottomed?The Corporate bond market got extremely oversold and it bounced without the Fed having to pivot. Essentially the market got to 2013-2018 levels, and bounced nicely at the old support. But we still don't know whether the bottom is in or now, as there are more questions that need to be answered, like: Does the market expect the Fed to reverse course soon? Does the market think the bottom is in for bond yields? Does it think inflation has peaked?
In my opinion the market did the tightening itself without the Fed. The Fed did a mistake for not raising rates and ending QE faster, however they were right on their approach to go slowly, as one way or another inflation would slow down. By inflation slowing down down I don't mean that prices will go down, just that prices will go up a lot less than they did over the last 1-2 years. At the same time I do believe that as inflation comes down, it is possible that we get to see the Fed say that they will pause their hikes after raising them to around 2% and will let their balance sheet roll off on its own.
Essentially higher interest rates, lower asset prices, tight fiscal and monetary policy, and already high energy prices are crushing demand. The Fed was/is behind the curve, but as the curve seems to be now moving to the direction of the Fed. To a large extend their objective has been achieved, as this correction was similar to the 2018 correction, only that this time around the correction was welcomed when back then it wasn't.
Now I don't really think the bottom is in for corporate bonds, however I also don't think they are going to roll over very quickly. If the food & energy crisis gets worse, I have no doubt that these will get crushed. It just seems that in the short-medium term things will cool down a bit and part of them Fed's goals have been achieved. The US economy remains fairly strong and its corporations are in a fairly good shape, despite everything that has been going in the world over the last few years.
Having said all that I don't want to be a buyer of HYG at 80. At those levels I think it is better to short and aim for 77-78, and then if the price action looks decent, go long at those levels. The bounce is too sharp for it to have legs to go higher immediately. I'd expect more chop in the 75-81 area before the market decides whether it is going to go higher or lower.
Credit Monitoring Basics: A Must Have SkillThese data series are all available in the Trading View platform.
Since the turn of the year the price of LQD, the investment grade corporate credit ETF, has declined nearly 10 points (-7.3%) and since early August is down 13 points (-10%). The important question is…. Why?
Knowing how to monitor credit is an important skill, particularly since so many in the commentary or advice business so misunderstand it. In this post I want to provide basic tools that will allow you to perform a down and dirty evaluation.
Why is credit so important? The Federal Reserve is much more sensitive to credit distress than they are to equity distress. If companies are unable to secure funding, they may face liquidity problems, and liquidity problems have the potential to become systemic. In 2008 and again in 2020 credit markets were, in essence, frozen. Particularly in 2008, even short term funding markets froze. There were plenty of offers but in many cases no bids. Being an old bond guy, I may be prejudiced, but credit makes the economy go and in general terms is much more important to short term functionality than equity. I think the Fed is more responsive to credit market functionality than it is to equity distress.
Listening to the angst of the want-to-be macro analysts or simply looking at the price of credit ETFs like LQD or HYG might lead one to believe that credit was generating an economic warning or danger sign. That narrative is, at least for now, false.
Corporate bond yield has two primarily components:
• Base rate: In the case of fixed coupon corporates the base rate is the nearest maturity on-the-run (most actively traded) U.S. Treasury (TR). The base rate is generally thought of as the risk free rate.
• Spread to the base rate: The spread above the base rate compensates credit investors for the higher risk of default and downgrade and the wider bid-offer (liquidity) spreads involved in corporate trading.
• For instance: 10 year Treasuries yield 2.00% and a ten year XYZ corporate security is offered at 120 basis points (bps) to TR. All-in-yield for XYZ is 3.20%.
Because there are two primary constituents of a corporate yield, price change can be driven by two things.
• Changes in the base rate. In other words, changes in treasury yields.
• Changes in the credit spread. Spreads widen/narrow to the base rate as investors seek additional/less compensation for default, liquidity and downgrade risk.
Normally the primary driver of changes in corporate ETFs and indices is change in the base rate/treasury yields. Said another way, TR yields are more volatile than corporate spreads.
• Big changes in Treasuries equate to big changes in corporate bond prices.
Chart 1: This is a long term chart of IEF (7-10 year Treasury ETF) plotted with LQD (the investment grade bond ETF).
• You can see how closely the two correlate.
• There will be some difference due to differences in duration (a measure of rate sensitivity) of the index versus the duration of the Treasury and changes in the spread component.
• But, clearly, changes in Treasury rates have an outsized influence on corporate bond rates/prices.
Chart 2: Option adjusted spread of the ICE BofA Investment Grade (IG) and High Yield (HY) Corporate Index's:
• The OAS offers a way to assess the credit spread component of a corporate bonds yield.
• Investment grade index is +1.08% to the base rate.
• High yield spread is +3.44% to the base rate.
○ There is more default risk in high yield, so the compensation, or spread to the base rate, is correspondingly higher than that of IG.
• Both IG and HY spreads remain very near historic lows with very little evidence that credit investors are growing fearful of default, downgrade, or liquidity risk.
Chart 3: All in yield BBB corporate index (top), BBB OAS or credit spread (center) and ten year treasury note yields (bottom).
• The all-in-yield, of the ICE BofA BBB index has risen significantly over the last few months.
○ Remember that in a bond, higher yields equate to lower prices. So a higher all-in-yield means that corporate bond prices are lower.
• BBBs are the lowest rating category of the Investment grade index and are more sensitive to the ebb and flow of default and downgrade risk than the investment grade index as a whole.
• While the all-in-yield has risen sharply over the last few months the OAS has barely budged from support.
Investors are not yet demanding more compensation for default risk. The change in corporate pricing has been driven by the sharp rise in rates.
Bottom Line: To understand the state of the credit market, you have to assess both changes in rate and changes in the spread. Hopefully you now have the tools to do a down and dirty assessment of your own.
Good Trading:
Stewart Taylor, CMT
Chartered Market Technician
Shared content and posted charts are intended to be used for informational and educational purposes only. The CMT Association does not offer, and this information shall not be understood or construed as, financial advice or investment recommendations. The information provided is not a substitute for advice from an investment professional. The CMT Association does not accept liability for any financial loss or damage our audience may incur.
Credit SpreadsWhen economy faces drag lending and borrowing of USD tightens. Investors expect higher yield for taking more risk causing the spread to widen, and liquidity to increase this also shows expectations of future default risk. High yield spreads- option adjusted have bottomed and are now starting to slowly trend upwards. This is showing the market is not really worried about credit risk. This is something to watch moving forward, and might play out for a nice set up.
Watch Corporate Bonds - Bond Selloff to Trickle into Stocks?LQD has just had 4 consecutive closes below the 21 ema, this may well be a sign of weakness in an already overextended market.
As you can see, LQD and the SPX have had a very tight correlation, particularly since the liquidity hose was turned on after the market crash in March. This is why a selloff in the bond markets, may very well forewarn of a potential correction (perhaps severe, perhaps just mean reversion).
This is made more concerning, with the selloff in HYG occurring in tandem with the selloff in LQD, the question i have is, what do the bond investors know that equity investors do not?
-TradingEdge
Distortion & misallocation & wealth transferThe chart says it all.
3 trillion increase in balance sheet in 2 or 3 months...
Party will go on as long as the long-term interest rate remains low...
Distortion - The massive rally has been partially fueled by $l8 trillion worth of fiscal and central bank stimulus. Short-term lending rate cut to near zero and long-term interest rates dropped to near all time low caused by massive QE.
Massive QE has distorted the interest rate so that the cost of capital is kept artificially low to the point that company is justified to undertake many projects that would not yield any productive return under the normal circumstances
Evolution of Fed's QE -
Treasury/municipal bonds-> corporate bond ETF-> individual corporate bond-> Yield curve control (in potential development)-> Maybe... Individual stocks in the future...
Even though Fed's purchase of individual bonds and ETF accounted for just a small percentage of overall bond market, I can't help but wonder why the Fed included lower-medium grade/slightly speculative bonds and bonds issued by financially healthy companies such as AT&T, UnitedHealth Group, and Walmart ?... to name a few.
Easy credit has undoubtedly kept some zombie company afloat when it is probably better for them to die off.
QE and forward guidance have resulted in high commercial bank deposits. Fortunately, as long as the circulation of velocity remains low and producer can keep up with the demand of good and service, the economy will not overheat.
Misallocation of capital - It is no surprise that American household's wealth is increasingly tied to stock market & real estate. As a result, there is a negative correlation between household wealth and interest rate.
The increased household consumption that results from the perceived gain in the stock market & real estate driven by low interest rate is the main culprit of chronic trade deficit.
Oh yeah, FAANG now collectively accounts for roughly 20% of top stock marketcap...
If it does not convince you that stock market is overvalued, just look at the ratio of total market cap over GDP (currently at 147.2%) and Shiller PE which is 13.1% higher than the recent 20-year average of 25.8.
Wealth transfer -
Pension fund, endowment, mutual fund and hedge fund are having a field day.
Maybe just a handful of investment groups are dictating the movement of the market. BlackRock alone has more than 7 trillion of AUM. Goldman Sachs, Bridgewater and few other investment groups also each controls more than hundred billions of asset.
It is hard to image that the quick reversal in the market is caused by a bunch of retail investors and traders panic sold in March, then immediately FOMO back into the market only a few weeks later.
HYG - High Yield US corporate bonds ETF s/r zonesHello traders,
Description of the analysis:
The ETF market for high-yielding corporate US bonds is currently in an important support area that was until recently a resistance. Resistance turned into support with a highly volatile upward movement supported by high volumes. This is a clear signal of a growing willingness to invest in riskier assets. This zone has a strong historical connection. If the market stays at or above this support, it means a positive outlook to allay market fears. The VIX index, as the main indicator of panic in the markets, is also slowly beginning to gradually return to its normal values. Market ties that were valid yesterday may not be valid tomorrow, so invest and trade wisely and carefully.
About me:
Hi, my name is Jacob Kovarik and I´m trading on stock exchange since 2008. I started with a capital of 3000 USD. My first strategy was based on OTM options. (American stock index and their ETF ). I´ve learnt on my path that professional trading is based on two main fundaments which have to complement each other, to make a bussiness attitude profitable. I´ve tried a lot of techniques and many manners how to analyze the market. From basic technical analysis to fundamental analysis of single title. My analytics gradually changed into professional attitude. I work with logical advantages of stock exchange (return of value back to average, volume , expected volatility , advantage of high stop-loss, the breakdown of time in options, statistics and cosistent thorough control of risk). At the moment, my main target is ITM on SPM index. Biggest part of my current bussiness activity comes from e mini futures (NQ, ES). I´m trader of positions. I´m from Czech republic and I take care of a private fund (4 000 000 USD). During my career I´ve earned a lot of valuable experience, such as functionality of strategies and what is more important, control of emotions. Professional trading is, in my opinion, certain kind of mental training and if we are able to control our emotions, accomplishment will show up. I will share with you my analysis and trades on my profile. I wish to all of you successul trades.
Jacob
Fed high-yield buying might inflate the price somewhatThe prices of high-yield bond ETFs went through the roof after the Fed announced that it would be buying them, but they came back down as investors realized that the central bank hasn't actually purchased any yet. Word on the Street is that they're about to start, though, so I went ahead and picked up a couple May 15 calls, and we'll see what happens.
Here's the prospectus on the program, which says the Fed will buy junk-grade bonds with 7-to-1 leverage: www.newyorkfed.org
I kind of hate myself for buying this garbage with all the bankruptcies and default risk out there, but the market seems to be mostly an index of central bank stimulus right now, so... when in Rome. (I'm keeping my bet small and would not recommend anyone throw a lot of money at this.)
Apple Support - lower than you thinkHi, thanks for viewing.
I think there is less demand for over-priced (subjective call) personal electronics at the moment. People are rightly thinking about more essential items, paying down debt, and increasing savings.
Probably worth pointing out how strong the 200 week moving average is as support - somewhere around 185, which is lower than people think. Anyone out there thinking that they are safe because "Warren Buffett bough Apple" need to look into the recent cut-losses by Berkshire Hathaway. Warren said many many times in the past things along the lines of "I don't understand electronics firms, so I don't invest in them," "I don't understand Apple so I don't invest," "if I ever invest in airlines - then call the Psychologist because I have lost my mind." Not direct quotes, but anyone who has followed Warren Buffett for a long time will know what I am talking about.
So, what happened recently? Berkshire cut losses on Delta Airlines - shares bough expecting the bail-out would somehow replace lost customer demand and bleak fundamentals. To hear that Warren even bought Airline shares just doesn't sound right to me. The same here, they invested in Stocks they didn't understand as well as their traditional 'bread and butter', departed dramatically from a value investing philosophy, and they will have to take their losses - just like everyone else. Apple is over-valued. Anything that is 'consumer discretionary' that may be affected by the steep drop-off in consumer demand will be sold - at least until the future comes into sharper focus. I bought a cheaper smartphone recently after getting annoyed at having to charge my iPhone before the day was over. My new phone has an 11,000Mah battery and I don't even need to charge it every day - every second day is more than enough. I don't need to pay crazy prices for cordless earphones, or $1000 for a computer stand etc etc. Apples has a good product, not necessarily the best in class, but they are compensating for lower sales by raising their prices - that makes them more vulnerable to lower consumer discretionary spending in the event of an economic downturn.
I am not sure if I will be a buyer at $185, because we are in the biggest economic shock of a lifetime. But there will likely be a bounce at that level.
Now we can watch how this market unfolds. The forces at play are massive US, ECB, BOJ stimulus versus a massive supply chain, and demand shock. Unfortunately, the Fed cannot make people able to afford their credit card bills, their rent, medical costs, cannot re-create a supply chain, or convince anyone that savings aren't essential right now. Long-term, they will have to convince the public that massive and un-serviceable Fed and Public debt isn't something to worry about. That owning public debt that yields below inflation and cannot be paid from income is a good idea. I am very concerned that all the monetised debt this year and next will be met with lower and lower demand as people realise they are not being adequately compensated to hold it, and that at maturity it will be paid in newly printed devalued USD. US Treasuries are a promise to deliver USD in the future, that promise to pay is very unlikely to be funded by additional income, so T-bonds are effectively a promise to print money. Anyone who knows about gold, knows that all the brakes have been taken off the gold price recently. ZIRP (that can never be raised), global uncertainty, negative real yields of 10 year T-bonds, and a struggling equity market, all lend strength (and reduce the opportunity cost to hold it) of gold.
Ok, I ended up going a little off-road there. But we are over-all in a "risk off" environment. Safe havens will out-perform vs equities or treasuries (treasuries have stopped being a safe haven). Corporate debt is definitely not a safe haven.
$DXY a signal for corporate bonds? NASDAQ:VCLT INDEX:DXY
I think there is some negative relation between $DXY and $VCLT.
Therefore watch out what the $DXY is doing Since it seems that when it goes up $VCLT goes down.
Dollar strength not good for long term corporate bonds it seems.
I imagine that it's because the market goes into short term treasury or longterm government bonds and avoids corporate bonds.
if anyone knows more let me know in the comments.
Rabbi.
What is going on with GOLD?Thanks for viewing, I labelled this as "long" despite some as yet unexplained steep price reductions in the short to medium term. I did that because I saw that price drops were coming but that was just a signal to add to purchases, as opposed to sell.
Why do I expect price drops in the short to medium term?
1. Elliot Wave seems to indicate the ending of wave (3) up, it is always hard to be sure, but anyone can see the three sections of price advance (and two declines) in the last two years,
2. There was rather evident bearish RSI divergence (higher price highs vs lower highs on the RSI) that emerged even before this last weeks price drop - indicating a loss of momentum,
3. A couple of rejections in a row from the USD1700 level,
4. Gold appears to be "overbought" on your technical indicator of choice (and it is hard to afford at the moment - many people will be waiting for a pull-back before buying - many many others can't or won't wait however.
5. Just look back a few years, the same thing happened in 2008, there was a steep decline in the price of gold during the last recession (it still gained 23% over the duration of the recession) because the same circumstances applied - some people were forced to sell due to circumstances - the rest had the ability to hold and also clearly saw the writing on the wall).
Why do I remain long?
1. Let me count the ways.
a.It is the perfect investment vehicle for the moment (uncertainty, money markets, debt markets and supply chains freezing up (bullion cannot get through either)),
b.record levels of open market operations announced by the US fed in the past week (otherwise their 30 year bond issue was going to possibly fail to find sufficient buyers - this should be a major salient red flag: the largest, supposedly most credit-worthy country in the world, was a few minutes (about 20 minutes I think) from having a sovereign bond issuance fail to find sufficient buyers if they didn't announce a new round of quantitative easing),
c. negative real fixed interest yields and the increasing possibility of negative nominal yields (this has changed very quickly from yield increases even mid last year) which mean that the "negative carry" aspect of gold (storage fees and no interest income) is less and less of a factor,
d. If you take inflation into account (let alone the comparably much larger increases in the money supply) gold is still significantly undervalue in real terms - yet $1600 sounds like a lot for just over 31grams of gold but not when you consider how worthless the currency has been made and will continue to become. There is a possibility of gold going geometric a la Venezuela, Argentina, Weimar Germany etc etc - some truly unimaginable gold prices are possible. If gold 'appreciates' to account for the money supply (as it has done before in times of crisis) a doubling or even tripling in the price of gold may be a low-side estimate youtu.be If gold had to go to 18,000/oz in 2018 to account for the money supply - imagine what it will have to go to after the printing presses really get going.,
e. I am not an economist by any means but I suspect that we have more in common with Weimar Germany than most realise - inflation is somewhere in the pipeline - but first massive MONEY PRINTING to "solve" all our problems,
f. In the developing country I live in gold has been setting new all time highs again and again (it waited one whole year after the USD 2011 ATH to set new highs in local currency terms) when you have a weak currency the best time to buy gold is always "right now." Gold isn't gaining in value so much as your currency is depreciating in real purchasing power (which is happening to a lesser degree in the US),
g. After reading Ray Dalio's free e-book about big debt crises I was to hear that 'credit spreads were widening' indicating that credit markets were only now reappraising the previously under-appreciated risks of BBB, BB, and B grades of Corporate Debt. Well I hear that a lot now - Last I heard credit spreads for (non-investment grade) BB debt are 815 basis points (8.15%pa above Treasury yields) which is a "very significant and rapid re-pricing in high yield debt youtu.be But significant credit rating downgrades from BBB (lowest investment grade) to BB aren't expected to be significant according to JP Morgan's Jim Casey - feel better? It doesn't make me feel better. The major driver in the US equity markets has been leveraged corporate buy-backs and any buy-backs from the last 12 -18 months are underwater while costing interest - at a minimum this will cause some pressure on Corporate finances and executives,
h. I heard this last week; gold is unsurance (insurance when you "are unsure what is going to happen,
i. gold IS money,
j. I wanted to diversity out of fiat currency as massive stimulus efforts by central banks will devalue all major currencies (maybe not much in relative terms - but in overall terms),
k. Gold demand set new records in 2019 and gold demand has ALREADY surpassed 50% of the 2019 demand - 2020 is on track to DOUBLE gold demand (this sort of thing is never predicted in advance - and hasn't been) - I read this on investing.com I think but haven't got a link for you,
l. Gold is valued in every culture all over the world and has been for thousands of years, I am sure there are more reasons but I have things to do.
But before I go, I just wanted to mention a predicted, predictable issue with sourcing gold and silver bullion. Yesterday, my bullion dealer significantly raised premiums. The premiums on items I regularly buy were raised from 5% to almost 35% in the course of a day. Right now we have futures prices that have become disconnected from the price of physical bullion. Why? Record demand along with supply chain problems - reportedly "several months" to restock supply minted in China. As Mike Maloney likes to say; buy silver now before it becomes unobtanium and unaffordium youtu.be He often recounts large time periods during the last major bull-run where silver couldn't be sourced (for any price) and even gold could only be sourced in a minimum of 1kg bars and had zero supply at all for a few days. He also mentioned that premiums went through the roof at those times - so the historical spot prices don't paint the picture. I believe the next few months might even be the last realistic chance to accumulate gold at reasonably affordable levels.
Stay safe everyone.
LQD ShortLQD just bucked a very important trend line. If investors have indeed lost confidence in corporate debt and we see follow through, then I see this as a bearish signal for stocks too. Typically the bond market is known to be correct over the equity market as large institutions with more knowledge than retail traders deal with bonds directly. To see corporate bonds give up such a well defined, key trend line, is to me a signal to be short not only on LQD but on the markets as a whole. Recently, the ramp up in stock prices was on very low volume and I can count 10 unfilled gaps on the SPY ETF. On the graph, there is one instance where we saw negative divergences but the price corrected in time rather than in price. Here, we could definitely see a correction in price as support now becomes resistance with the trend broken.
I am not taking a short position on LQD directly but I do recommend taking short positions on equities through investment vehicles such as SQQQ (-3 QQQ). I am also considering on buying UGLD (x3 gold) and TMF (x3 US treasuries) as a flight to safety emerges into those safe haven assets.