Bonds Quietly Breaking Out

Though it may not be a sexy topic like gold has been in recent days, always check bond prices.  It's nothing less than a necessity. For active traders and investors who closely follow the equity markets, keeping tabs on other asset classes is something many talk about, but often forget to incorporate into their daily/weekly routine.

Of all asset classes, bonds are arguably the most important and rightfully so. The bond market is enormous. Bond traders look at equity markets as the poor man's game. Yet, us peons should maintain our composure and have no fear. Bonds have a history of turning before equities, and those who do not heed the warning signs always pay the price. There are multiple ways to check in on bonds, mainly by analyzing the basic price charts. However checking in on the ratio of Equities/Bonds allows us to see quickly which asset class is underperforming, and adjust our positions accordingly.

Take a look at the ratio of the SPY : TLT. This measures how equities are performing relative to bonds. It's clear that a classic head and shoulders topping pattern is in place, and likely breaking down. This translates to bonds are starting to look ripe for a move higher... and equities are flashing signals of lower prices to come. Breaking below 1.24 leads down to 1.16, and potentially lower.
 

If the neckline above is broken, and it certainly appears that it will as the RSI strength indicator is showing serious weakness, then the "Sell in May" is all but certain to happen. There are other warning signs that an intermediate term top is in place, however technically, we haven't hit the disaster sell-off point.

Bottom line, bonds are breaking out, and in this deflationary environment, stocks are likely to sell off into May. Keep your wish lists ready and for those long term investors, scale in as serious selling occurs. Short term position players should look for short entries, sell long positions into rallies, and most importantly, set your stops at defined risk levels.