On the Verge of a Big Breakout in Rates
Heading home from Vegas... Stocks are 'plunging' again... A seven-year extreme in Treasurys... On the verge of a big breakout in rates...
Editor's note: The Digest team is returning from our annual Stansberry Conference and Alliance Meeting in Las Vegas, so today's issue will be brief. We'll return to our usual publishing schedule tomorrow. And be sure to stay tuned for highlights from this year's event later this month.
Two hundred points ain't what it used to be...
Today, the Dow Jones Industrial Average fell more than 350 points during intraday trading before closing 200 points below yesterday's all-time record close. The benchmark S&P 500 Index shed more than 40 points before recovering toward the end of trading to close down 24 points for the session.
If you're anything like us, you can't help but think of those numbers as noteworthy. After all, for most of our investment careers, they represented a broad market decline of 5% or more. Many readers likely remember when they represented a genuine market correction.
Yet today, thanks to the ongoing nine-year bull market in stocks, they barely register a 1% decline. Of course, that doesn't stop the financial media from trumpeting the "market sell-off" just the same.
You might not know it from the headlines, but this week's most notable moves had nothing to do with stocks...
Instead, they occurred in the U.S. sovereign debt markets.
Over the past few days, long-term interest rates have been on an absolute tear. As you can see in the following chart, the yield on 30-year Treasury bonds has officially broken out above 3.35%, its highest level in four years...
The yield on benchmark 10-year Treasury notes has surged even more. As you can see, 10-year rates have broken out above 3.10%, and are closing in on 3.20% for the first time in seven years...
Regular readers may recall our colleagues Ben Morris and Drew McConnell noted this potentially critical level late last month. As we shared in the September 26 Digest...
If 10-year yields break through [to a new high above 3.2%], it will complete a powerful trading pattern called a "double bottom." Here's how it works...
In the chart below, you can see that yields fell to 1.39% in July 2012 (A).
They rallied to 3.03% in December 2013 (B). Then they fell to almost exactly the same level – 1.36% – in July 2016 (C).
The two lows formed the base of our double-bottom pattern. Now, yields have rallied back to and slightly above their previous highs (D). This morning, the 10-year Treasury trades with a yield of 3.10%.
We've seen false breakouts before, like the one you can see on the chart this past April. But if yields continue higher here, the double-bottom pattern will be confirmed.
This pattern has not yet been confirmed. But it's now getting close. A strong move above 3.20% would suggest we could see rates continue significantly higher in the months and years ahead.
Now, as we noted last month, this isn't necessarily a bearish signal for stocks in the near term...
Despite the big rally over the past couple years, long-term rates are still relatively low on a historical basis. In fact, history shows rising rates are often bullish for stocks, at least initially.
In other words, there's no reason stocks and interest rates can't continue to move higher together. So this breakout is no reason to panic and sell all your stocks today.
However, if rates continue to rise, that could soon change...
If 10-year yields rise above 4% – and particularly if this move happens more quickly than anticipated – they could begin to create real problems for both stocks and the corporate bond market.
In fact, as Porter reminded readers in the September 21 Digest, this is one of the three most important indicators we're watching for signs of trouble...
- The prices of junk bonds. As credit tightens, the prices of junk bonds will fall. You can watch junk-bond funds – like the iShares iBoxx High Yield Corporate Bond Fund (HYG) – to monitor these prices.
- The interest-rate "spread" between high-yield debt and U.S. Treasury securities. As defaults grow, the increased risk will be expressed in much higher interest rates for weak borrowers.
- The 10-year U.S. Treasury yield. If safe yields on government bonds reach 4% or more, the corporate-bond market will experience complete carnage. Average rates to refinance outstanding debts will probably double.
Again, we're not there yet. And importantly, neither of the other two indicators above are signaling any trouble at this time, either.
In short, we continue to expect this long bull market has further to run. For now, our advice remains the same: Stay long, but stay smart... and get ready for the "Melt Up."
New 52-week highs (as of 10/3/18): Apple (AAPL), Cisco Systems (CSCO), EOG Resources (EOG), Ingersoll Rand (IR), iShares U.S. Aerospace and Defense Fund (ITA), Lindsay (LNN), and Viper Energy Partners (VNOM).
In today's mailbag, a subscriber shares some early feedback on this year's Stansberry Conference and Alliance Meeting. If you joined us – either here in Las Vegas or online via our "online all-access pass" – we'd love to hear what you thought as well. Please drop us a line at feedback@stansberryresearch.com.
"This has been a great and interesting [conference.] The people who spoke are all so doggone smart and the attendees with whom I talked pretty much agreed with that.
"The other interesting thing is that those attendees admit readily they have learned much from being in the Alliance. It's not unlike a motorcycle convention insofar as everybody seems to speak the same language (financial in this case) and are seriously on top of the market." – Paid-up Stansberry Alliance member Phil B.
Regards,
Justin Brill
Las Vegas, Nevada
October 4, 2018