US futures and European stocks were in the green, as positive earnings and a dovish interpretation of Federal Reserve rhetoric reassured investors.
Moreover, easing yields buttressed the argument of a pivoting Fed. Presumably, if investors expected continuously higher rates, they'd sell Treasuries, pushing yields higher, as they await higher-yielding Treasuries.
However, in my opinion, while it may be textbook behavior for yields to point the way forward for rates, I think investors forget something. The yield curve is inverted!
So what, you ask?
Well, let's break it down. Why is the yield curve inverted?
Because investors have been buying longer-dated bonds than shorter-dated bonds, although the longer commitments provided a lower yield. In a typical market environment, that doesn't make sense. They are only willing to commit for longer for a lower yield. If they buy a shorter-dated Treasury now, there is no telling what the market environment will be at maturity, and traders' cash will be exposed.
In other words, investors are not buying bonds for their yields but for safety. If that's the case, increasing Treasury demand, which pushes the yield lower, does not suggest an expectation for lower rates. Furthermore, I expect 10-year yields to fall lower yet, maybe even against a rising 2-year yield, steepening the inverted yield curve.
The 10-year yield climbed Friday above the neckline of an H&S top. However, it fell today back below it (barely), and the 50 and 100 DMAs curve down, suggesting 10-year yields will resume along their falling channel. Conversely, the 2-year yield broke the topside of a Symmetrical Triangle within an uptrend, indicating the lower dated bond will continue higher, steepening the yield curve inversion.
Big tech has been outperforming in the current rally, and I believe it's on the mistaken notion of a peaking Fed tightening cycle. Big tech should suffer the most during rising rates because higher borrowing costs outprice their valuations relative to neglected cyclicals, which provide significant value. If I am right, and this has been a bear rally rather than a bottom, the NASDAQ 100 should take the biggest hit. The technicals agree that the mega-tech index is overextended.
The NDX has been trading along a falling channel. On Friday, the index fell after reaching the top of the boundary. It just so happened that it's the same level as the previous low in March, adding to the resistance. The long-term downtrend is much more potent than the short-term uptrend, as much more interest is invested in it.
Also, note the two negative divergences: the Accumulation/Distribution and the Advance-Decline Line. While the former has an eighth of its peak breadth, the Accumulation/Distribution indicator has been flat in the current rally.
Trading Strategies
Conservative traders should wait for a long weekly candle to confirm that the falling channels remain intact before risking a short position.
Moderate traders would be content with a week that fails to break out the channel top.
Aggressive traders could short now, provided they accept the higher risk proportionate to the higher rewards of moving before the rest of the market. You must operate according to a coherent trade plan that incorporates your timing, budget, and temperament. However, if you don't know how to do that yet, feel free to practice with the following sample, understanding it's just a generic sample and does not represent the validity of the analysis. You do so for education, not profit, or you'll end up with neither. I guarantee it. No money back. Happy trading!
Trade Sample - Aggressive Short Position
- Entry: 13,326
- Stop-Loss: 13,526
- Risk: 200 points
- Target: 11,326
- Reward: 2,000 points
- Risk-Reward Ratio: 1:10
Disclaimer: The author currently does not own any of the securities mentioned in this article.