Over the past few weeks, the US corporate bond market has trended down back down towards support. The key LQD high grade corporate bond ETF actually closed yesterday below its most recent short-term support level, the lows of the last several weeks, and appears headed down now to its lows of the year.
I’m not trying to predict exactly what it will do here as LQD could bounce for a few days or weeks before falling further, but what is important is that when you step back and look at the big picture it appears to be completing a massive stage three top.
Remember, last year marked a record low for corporate bond yields after the Federal Reserve lowered rates to zero and launched a new QE bond buying program. That was a secular low in yields for a massive bull market going back for over three decades. Bonds trade opposite to their yields, so the high just over 136 for LQD set several months ago is likely to become an all time high for this ETF.
Since that high the Fed announced the pair back of its QE program and FOMC policy is likely set for a new rate hiking cycle to start in the second half of next year. More importantly, inflation is here and is much higher than bond yields. The last reported annualized CPI came in at over 6% and the LQD ETf yields 2.48%.
This is a joke.
Corporate bonds are going to go down in value, because of this discrepancy. It’s only a matter of how they do it.
I personally own puts on LQD as a way to partially hedge long positions in my account, most of which were bought back in January of this year.
A stage three top comes when the long-term 150 and 200-day moving averages go sideways. A stage four bear market happens when the price decisively breaks through those levels and the moving averages begin to turn down. We are not at that point yet.
The JNK junk bond high yield ETF also has a similar chart as LQD.
Again here is what the yield looks like.
Again, a few months ago we saw the lowest yield for junk bond US corporate debt ever to mark a secular low in yields.
Rates are so low, its crazy.
Here is how the ten year Treasury yields stack up when compared to inflation.
Here is the big takeaway – last year we saw a secular bottom in the price of commodities after the March covid market crash. That bottom came when oil prices briefly went negative in the futures market. From that point forward commodities began a secular bull market.
Record low junk bond yields followed by inflation rates over six percent represent a similar secular turning point in the bond market like negative oil futures did.
It took over a year for the media and the masses to realize after the bottom came that commodities were rising. It may take a year for people to realize that bond yields made a record low too. But if you want to take a position against bonds, now is probably a time to do it. The best way to bet on something with a potential long-term payoff is with a small bet.
For instance if you put 10% of your money into energy stocks in April of 2021 that would help create a 30% or more overall return in your account with that position, but if you put 100% of your money in right on the bottom you most likely would have sold at some point seeing a dip take away big unrealized gains. It’s hard to hold a big position when an inevitable downturn comes and it’s impossible to predict exactly how each short-term gyration will play out. With smaller positions you don’t need to worry about those little gyrations.
If bond yields for corporate debt do rise over the next year it will eventually hurt stocks. It’s a big red danger sign for next year, but right now no one cares. The S&P 500 hit a new intra-day high in fact on Monday.
Secular trends are not little gyrations. They aren’t day trades, they are key turning points in a market that come once a decade and invisible to just about everyone when they happen.
For more on concepts such as stage analysis grab my book Strategic Stock Tradinghttps://kdp.amazon.com/amazon-dp-action/us/dualbookshelf.marketplacelink/B007ZHVBLS.
-Mike
