Option Investor
Market Updates

Treasuries find buyers, and may provide pullback for stocks

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In recent Index Trader Wraps at OptionInvestor.com, I've been trying to lay a foundation for index bulls to be looking for pullback entries. We've been trying to "correlate" a trade with what we've been seeing in the 10-year Treasury YIELD ($TNX.X) as recent buying that began Monday, has had us thinking that the major indexes might continue to provide a lower trade, but a lower trade that I think equity bulls might want to look for pullback entries in.

In recent commentary, I've also been updating traders and investors on various sectors that Dorsey/Wright and Associates sector bullish % charts have been seeing internal improvement from, whereby more and more stocks in a particular sector are beginning to generate reversing upward point and figure buy signals.

Yesterday's action had Dorsey's "restaurant" sector reversing up into "bull confirmed" status and a wonderfully low level of 32% bullish. Two weekends ago, I showed a "sector bell curve" in OptionInvestor.com's and premierinvestor.net's "Ask the Analyst" column, as the days have unfolded, several sectors have reversed upward and have begun moving to the right in the bell curve. Since that article was written, I don't recall any sectors moving to the left, or lower.

I wanted to show a YIELD chart of the 10-year YIELD ($TNX.X) with conventional box size of 0.50 and how I look to try and "envision" a 10-year YIELD ($TNX.X) pullback near 3.8%, or 38.00 on the chart, with a level where I would then look for selling in this bond. It may make sense that since this past weekend, when the war effort in Iraq "stalled a bit" that MARKET participants have perhaps become a little more "defensive" and started stashing some cash back into bonds. However, it is often thought that "smart money" will look ahead, and for a bullish trader in stocks looking for pullback entries, I think we want to start trying to plan and "envision" how we, or at least I think, things should unfold, or want them too unfold.

10-year YIELD Chart - 0.50 box

It's kind of "funny," but the other day, I was looking at a 60- minute interval bar chart of the 10-year YIELD, and found a little "head/shoulder top" formation in that chart, that gave a downside objective of 3.7%. That's a little bit lower than a level of 3.8%, that I think may be in play from the above p/f chart. In February (just after red 2) the 10-year YIELD really broke lower at 3.75%, and that really helped signal further weakness in the major indexes (we were actually on the alert at 3.85% for equity index weakness).

Today's low on the 10-year YIELD ($TNX.X) has been 3.876%, and current trade is 3.90%. As a benchmark to this action, today's low in the Dow Industrials (INDU) has been 8,131 and current trade is 8,148 (down 52 points).

So far, I think I get a pretty good tie with the Dow at 8,050, if the 10-year YILED trades close to 3.8%.

Since Treasury bond action will be "so important" in my trading, as there is so much uncertainty in the markets as it relates to Iraq and the economy, I don't just want to envision a trade in the indexes, but YIELDS as well.

The other day, CNBC had an analyst on and they asked him... "who is smarter, the bond market or the stock market." He laughed a little and said.... "oh, the bond market is much smarter than the stock market."

I chuckled too, as that has been my view for years. The bond market "has to be" smarter. It's roughly twice the size (capital invested) and YIELD returns are relatively small when compared to "infinite" return potential from stocks.

Anyway... I thought I throw in a p/f chart of the 10-year YIELD ($TNX.X) and I think that all equity traders, not just equity index traders might be able to begin testing my analysis from above.

If I'm wrong, and YIELDS continue to plunge lower, then guess what I will probably "know" about equities from that point? Weakness right? Still.... by waiting for pullback entries to support, I do think/believe there is good profit potential in the weeks ahead for equity bulls.

I'm also keeping up to date on the various major market bullish %, all which have held steady this week and have actually shown some marginal internal strength with a few stocks creating reversing upward point and figure buy signals.

Several subscribers have asked for a table of Professor Davis' probabilities studies so that they can look for point and figure chart patterns that show higher probabilities of bullish success as the sector and major market bullish % charts begin reversing upward.

Bull Market Pattern Findings

Pattern               Profitable   Avg. Gain    Avg. Time
DOUBLE TOP               80.3%       38.7%     11.5 MONTHS
TRIPLE-TOP               87.9%       28.7%      6.8 MONTHS
SPREAD-TRIPLE            85.7%       22.9%      7.7 MONTHS
BULLISH TRIANGLE         71.4%       30.9%      5.4 MONTHS
BULLISH SIGNAL           80.4%       26.5%      8.6 MONTHS
BEARISH SIGNAL REVERSED  92.0%       23.2%      2.5 MONTHS
COMBINATIONS             79.5%       36.0%      8.0 MONTHS

Bear Market and Pattern Conclusions

Pattern Profitable Avg. Gain Avg. Time DOUBLE BOTTOM 82.1% 22.7% 4.7 MONTHS TRIPLE BOTTOM 93.5% 23.0% 3.4 MONTHS SPREAD-TRIPLE BOTTOM 86.5% 24.9% 4.6 MONTHS BEARISH TRIANGLE 87.5% 33.3% 2.5 MONTHS BEARISH SIGNAL 88.6% 21.9% 4.9 MONTHS COMBINATIONS 83.3% 22.9% 3.4 MONTHS

Remember! It is very important to "know" if the stock your trading is in a bull or bear market condition. Sector bullish % helps determine what shape the sector is in and the various market bullish percent helps determine what shape the broader market is in.

Jeff Bailey

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