Option Investor
Market Updates

5.59% for the next 30-years

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Many investors might look at the "promise" of a 5.59% return per year for the next 30-years as a major insult. On the other hand, it's better that a 20% decline per year for the next 30-years. That's one way to think about where we're currently at in the markets and what takes place on a daily basis when you compare the risk/reward in stocks verses the risk/reward in the 30-year US Treasury bond. Current YIELD on this bond is now at 5.59% and today's action tells us there are still a lot of market participants that seem to want to gravitate toward the bond market and its safety.

30-year YIELD Chart - last ten months

The YIELD on the 30-year is starting to violate some recent lows and this should have bullish traders somewhat concerned. I've put a retracement bracket on the above yield and labeled two areas on how stocks will be acting should the YIELD on this bond continue to move. Its rather obvious that money has gravitated toward this bond in recent weeks. When YIELD was up at the 5.9% level, market participants felt that that YIELD, as low as many think it is, was attractive considering the perceived risk of stocks and the current economic environment. Right now, we're approaching what I'd consider a more "neutral" level.

A trader/investor can simply understand that the shorter-term trend on YIELD is lower and indicates that there is money flowing into bonds. Eventually, the MARKET will decide that as YIELD goes lower, the level of "reward" as indicated by YIELD is no longer attractive when measured against the risk/reward associated with stocks. At that time, we will begin seeing YIELD rise as selling occurs in the bond and that money should find its way into stocks. I've got an alert set at 55.81 or 5.581% on this bond YIELD to alert me to a level where if violated to the downside, we might expect selling to pick up in stocks. If the market is all about supply/demand then right now there is demand for bonds. That demand is simply money flowing into the bonds. Money that could have gone into stocks, but isn't.

Look for some fund managers and especially hedge fund managers to simply be monitoring YIELD. When an alert is triggered (up or down) they will act accordingly. Why would any market participant be willing to "settle" for a 5.5% YIELD if they didn't think or know that something bad might be on the horizon for stocks that spelled of risk?

Jeff Bailey

Strong Sectors Getting Hit

In our last update we mentioned that some of the stronger sectors might be suffering from some profit taking today, but the Pharmaceutical Index (DRG.X) may be seeing some outright selling.

Pharmaceutical Index Daily Chart

Just a day or two ago we had mentioned that the Drug Index could be getting ready to make a run at previous highs at 415, but today's it's down 3.51%, what happened? Oh, that's right; Merck warned that earnings would fall short of expectations. Today's drop has pushed DRG below both moving averages, but it looks like the lows at 394 could offer some near term support. The recent up trend has been broken, but pharmaceuticals have yet to give back 38.2% of their April gains. Continued selling could see this index fall to 386, which is still better than some sectors.

Merck Daily Chart

I was thinking about Merck (NYSE:MRK) as possible short candidate yesterday, no seriously I was, but decided against it. The chart certainly looked poised to fall. Two days ago Merck failed to push through the yearlong downtrend, 38.2 retracement bracket, and 50-dma, forming a bearish shooting star in the process. Yesterday the stock tried again but failed, and the stochastic was starting to roll down. They only thing that stopped me was not wanting to short a stock in a strong sector. Who needs an 8.4% drop in one day.

Jeffrey Canavan
Assistant Analyst

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