McClellan Chart In Focus: High Yield Bonds Back to Bullish Mode – By Tom McClellan

Chart In Focus

June 06, 2019

The month of May 2019 gave us a scary-feeling selloff, as tariff worries gripped investors’ hearts.  But it also showed that liquidity is not really in trouble, and now we have an affirmative sign that the bulls are back in charge. 

High yield bonds, sometimes known as “junk bonds”, trade more like stocks than like Treasury bonds.  And they have proven to be ultra-sensitive to liquidity conditions, either positive or negative.  They turn out to be really useful canaries in the stock market’s coal mine.

At the April 30, 2019 top for the SP500, we did not see a bearish divergence in the A-D Line for high yield bonds, which is the subject of this week’s chart.  That is important, because this A-D Line has shown a remarkable ability to show us bearish divergences at the important price tops.  We have since seen a slight dip below the 5% Trend (AKA a 39-day EMA), but this A-D Line has now recovered and moved back above that EMA. 

That is important because this High Yield Bonds A-D Line gives important messages about the trend for stock prices based on its relationship with that 5% Trend.  When it is above that EMA, it conveys a very bullish message.  Going below it can be problematic, although the problems associated with such a move can often be delayed until after there is a bearish divergence compared to prices. 

This next chart shows a very simple hypothetical trading system based on owning the SP500 (or not) depending on whether the High Yield Bond A-D Line is above or below its 5% Trend.

High Yield Bond A-D Line Trading System

I am not proposing this as an actual trading system; any system based on one single factor is going to have problems.  My purpose in showing it is to help demonstrate just how important this A-D Line’s strength or weakness is for stock prices. 

Turning back to the top chart, in 2017 there were several dips below the 5% Trend, all of which were quickly reversed and the uptrend lived on.  We have the same indication now in the current episode.  In the absence of a divergence top condition, the interpretation is that we have just seen a normal corrective dip, and the uptrend is now back on.  Liquidity is not the problem; tariff worries are.  And that is an easier problem for the market to remedy.

Tom McClellan
Editor, The McClellan Market Report

Related Charts

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Junk Bond Strength is Bullish For Stocks
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About the author

Sherman and Marian's son Tom McClellan has done extensive analytical spreadsheet development for the stock and commodities markets, including the synthesizing of the four-year Presidential Cycle Pattern. He has fine tuned the rules for interrelationships between financial markets to provide leading indications for important market and economic data. Tom is a graduate of the U.S. Military Academy at West Point where he studied aerospace engineering, and he served as an Army helicopter pilot for 11 years. He began his own study of market technical analysis while still in the Army, and discovered ways to expand the use of his parents' indicators to forecast future market turning points. Tom views the movements of prices in the financial market through the eyes of an engineer, which allows him to focus on what the data really say rather than interpreting events according to the same "conventional wisdom" used by other analysts. In 1993, he left the Army to join his father in pursuing a new career doing this type of analysis. Tom and Sherman spent the next 2 years refining their analysis techniques and laying groundwork. In April 1995 they launched their newsletter, The McClellan Market Report, an 8 page report covering the stock, bond, and gold markets, which is published twice a month. They utilize the unique indicators they have developed to present their view of the market's structure as well as their forecasts for future trend direction and the timing of turning points. A Daily Edition was added in February 1998 to give subscribers daily updates on their indicators and also provide market position indications for stocks, bonds and gold. Their subscribers range from individual investors to professional fund managers. Tom serves as editor of both publications, and runs the newsletter business from its location in Lakewood, WA.