Credit is Suspicion Asleep

By: Bob Hoye | Fri, Oct 17, 2014
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The following is part of Pivotal Events that was published for our subscribers October 9, 2014.


Signs Of The Times

"Tom Lee: Stay Bullish And Prepare For Years Of Stock Market Gains"

- Business Insider, September 15

Lee was with J P Morgan and has an S&P target of 2100 by the end of this year. Lee asks "What can go wrong?" and only identifies an "external shock" from a spike in oil prices. The old conviction that inflation in tangible assets is bad still prevails. The dangers of inflation in financial assets are not on the horizon.

"We now see risk/reward as more attractive than it has been in over a year."

- Morgan Stanley, October 6

"Companies in the S&P 500 are poised to spend $914 billion on share buybacks and dividends this year, or about 95% of earnings."

- Bloomberg, October 6

"High-yield has widened out and increased in attractiveness."

- BlackRock, October 6

Junk was yielding 5.69% in June and now it is trading at 6.74%, which is quite an increase. In the collapse of 2008 it reached 10.20%.


A number of "lines in the sand" have been violated over the past few trading days. This is in credit and stock markets, as well as in currency and commodity markets.

It seems to be confirming, again, that at crunch-time central bankers cannot alter the yield curve or credit spreads to impose an arbitrary policy. As in extending a financial mania beyond its natural shelf life.

Credit Markets

The old saying that "Credit is suspicion asleep" is still valid. As with yesterday's release of Fed minutes, suspicion has been anesthetized, but we hope, not euthanized.

Credit spreads as represented by JNK/TLT widened out to a new low for the move early in yesterday's trade. That means taking out the August low, but it recovered a little on the day. When compared the setback in May-June last year this has further to go. That's on amplitude and momentum.

Yesterday's excitement about the Fed's "dovishness" narrowed spreads, today's action is taking it back.

With all of the excitements in the markets and the pickup in economic reports the yield curve has been flattening. This has brought the curve in from 335 bps last year to 229 bps on Tuesday. The action has been relentless and without correction for 10 months now. This has driven the Weekly RSI from 72 in July 2013 to 30 in September.

The action at the "top" in 2013 set a negative divergence against the RSI and recently it seems to working on a positive divergence. Now at 236, rising through the 50-Day ma at 239 would accomplish the reversal.

Typically this move can become eligible for reversal at 12 to 16 months of flattening. In 2000 and in 2007, the curve inverted and on the count on the first bubble we had a target for around March of that fateful year. In 2007 the count ran out to around June and the curve reversed in that May.

Central bank aggression has been without precedent, which makes us doubtful that the curve will invert. But the key will be the change, which has always been a market function rather than due to deliberate policy.

That goes for spreads as well.

In looking at the bond future, a three-point rally accompanied the latest setback in the stock markets. It is the "flight" knee-jerk that prompted the huge rally with the 2008 Crash. Still can't get bullish on the bond future.

Our advice to investors was to shorten term and to get out of risk stuff. Investment-grade corporates of around 3-year maturities would be ideal. Particularly in US dollars.

Lower-grade bonds have been declining in price and since the big overbought for JNK in June we have been bearish. The high for JNK (without interest payments) was 41.81 and the initial slide was to 40.06 in July. The rebound made it to 41.45 in August and last week's low of 39.82 was an interesting violation. It recovered to 40.37 on Monday. Today's low trade is at 40.05 and is working on a Downside Reversal.

Taking out 39.82 sets the downtrend and weakening global commodity prices suggest a return of pricing pressures in most business sectors. In the past such a condition reduces earnings power and the ability to service debt. Rating agencies will become very active in downgrades.

As noted above, the low yield for junk was 5.69% in June. It is now at 6.74% and the high as the panic ended in 2009 was 10.20%.

Technically the decline accomplished the dreaded "Death Cross" in the middle of September. That's when the 50-Day and 200-Day moving averages cross.

On the fundamental side, financial history is going into a condition when many junk issues will live up to the worst of the descriptions in their prospectuses.

On price, where senior obligations will continue to trade as a percentage of par, too many junk issues will be quoted in parts per million (ppm).

Another great bond revulsion is at hand.


History provides the best guide to the course of the senior currency during the postbubble condition. We have summed it up as "The dollar will be chronically strong against most currencies and most commodities for most of the time."

Of course, this would be "on" during the cyclical contractions and "off" during the cyclical expansions. That the dollar would firm as financial speculation blew out is not an unusual event. It may be to central bankers and gold bugs.

Earlier in the year we had around 85 as a target for the DX. When it got there we advised that while it was overbought, it could go much further. Especially if a liquidity crisis was discovered.

The high was 86.87 with the downdraft in stocks and low-grade bonds. The Weekly RSI soared to 87 on Friday which was the highest since the 1980s bull market for the dollar.

The DX sold off with yesterday's celebration of the discovery that the Fed was still "dovish" in September. It is firming today and has further to go.

The mechanism that seems to drive the dollar up in a contraction could be that the Fed needs soaring asset prices to depreciate the currency. Without this the Fed is pushing on a string. It also could be the flight to the liquidity found in US treasury bills. It could also be that most of the debt floated in the bubble is due and payable in New York in Us dollars.

On so many words, a bubble is a huge short position in dollars.

The Canadian dollar rallied to 94.17 in June, reaching the best overbought on the Daily RSI since 2008. It became somewhat oversold at 88.73 last week and bounced to 90.18 earlier today.

The downtrend could continue into November.


Two weeks ago we noted that crude oil was resisting the decline in other commodities. The conclusion was that it was vulnerable to the ongoing decline, as well to seasonal forces into December. It has slumped from 94.90 to 85 today. Important is that on the decline to 92 in August it was oversold. The rebound was brief and then it failed.

Something similar happened to the grains (GKX). Oversold in July with a weak rebound and then down. The slump into last week became equivalently oversold and the index has popped from 290 on Friday to 309 earlier today.

The pop could be brief.

On our "Rotation" theme, base metals (GYX) were late and started the rally in March at 321 and became overbought at 376 in July. This was tested at 377 in early September. The drop to 343 last week became oversold and the pop has made it to 354 earlier today.

Cotton became overbought at 95 in May and dropped to 62 in August, where it was oversold. The rebound was to 68.48 in early September. Last week's low was 60.83 and it reached 65.5 on Tuesday. Cotton seems vulnerable to the pattern of failing from an oversold condition.

Weakness could prevail for most commodities well into November.

Precious Metals

This sector did well on our "Rotation" out of December and the RSI on the silver/gold ratio became overbought enough in March for us to exit the trade.

This "tool" has been worth its weight in, well, gold, and fortunately very few analysts follow it. On the speculative rush into 2011 the RSI soared to 92, which had not been reached since the magnificent blow-off in 1980. We noted (in 2011) that this indicated that speculation had become "dangerous".

On the secondary rally into September 2012, the RSI reached 84 and we noted that anything above 78 was in dangerous territory.

Action since has generated a number of trades that we thought might have been the ultimate low. However, this page has maintained that the big opportunity for gold would arrive when the bull market in orthodox investments rolled over.

This seems to be happening and has been anticipated by the breakout in gold's real price a couple of weeks ago. This was confirmed by the rise in the gold/silver ratio through 69. Those were the indicators that were anticipating another phase of financial contraction. The question has been when will gold in US dollars rally?

At only 24 on the Daily RSI last week, gold became oversold enough to pop a rally. It is uncertain if this can last or if it is in the pattern whereby it can decline from an oversold condition.

This page has been avoiding reviewing gold's dollar price, but has been looking forward to an important buying opportunity for gold shares later in this month.

Gold shares (HUI) set an exceptionally oversold on the Weekly in 2013, which was part of the precious metals sector crash. Otherwise, the other severe oversolds occurred with the end of the 2002 Crash and the 2008 Crash.

Current pressures could end with a spell of heavy liquidation, taking most gold shares with it. The Weekly RSI is down to 34 but closer to 30 would provide more comfort in starting to buy.

However the next couple of months work out in detail, market forces are setting up a cyclical bull market for the gold sector.

Transition From Dips To Sell The Rallies

NYSE Composite Index Weekly Chart


Link to October 10, 2014 Bob Hoye interview on



Bob Hoye

Author: Bob Hoye

Bob Hoye
Institutional Advisors

Bob Hoye

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