Things are getting very ominous in the debt markets. The effects on stocks could be profound. And that’s why I’m going to show you some very interesting debt charts in just a moment.
First let’s look at the major events in the pipeline that are giving rise to what’s coming.
Much anticipation will center on the upcoming meeting between US President Trump and China Premier Xi. They’re going to have some serious talk about the ongoing trade war between their respective countries.
Meanwhile, UK Prime Minister Theresa May has received the blessing from 27 EU countries on the currently proposed Brexit terms. Now May will have to sell the package to her House of Commons (Parliament). The UK Brexit from the EU is currently slated for March 29, 2019 but things are likely to be very lively in the days and weeks ahead, Brexit-wise.
And against the backdrop of these market moving events, investors are eying the U.S. dollar (USD) as a “safe haven”. They’re also bolting from technology stocks.
That’s why the U.S. Dollar Index (USDI) reversed higher last week. You can see the clear support line for a higher USD trajectory.
So the dollar’s in an uptrend and within a tight range. There’s plenty of bullish key reversals too where the dollar tried to drop and then got pushed right back up again. So the dollar is finding support repeatedly.
One thing to keep in mind is the overhead resistance. The dollar might stall there for awhile before breaking out. I suspect it might stay in a tight range for a few more weeks at least.
But if it doesn’t, one of the best ways to play the strong dollar is EURUSD (Euro against the U.S. dollar).
A cross below 1.1200 in EURUSD will confirm the current bull trend in USD is likely to continue for some time to come.
That’s because we’re seeing a bearish head and shoulders price pattern here with two levels of support. The lowest is at 1.12.
I think we might hit that level sooner rather than later because last week was a key reversal. (The price rallied, failed to hold the high and closed on the low.)
The 1.12 price is important enough that if it’s breached then EURUSD should return to parity (1.00).
Now here’s another forex trade worth keeping an eye on: GBPJPY (the British pound against the Japanese yen).
Note the historical head and shoulders. You can see what happened after that pattern completed — a huge drop worth many thousands of dollars if you held a short position during that time.
The GBPJPY price has since recovered, but more recently we’re seeing new bearish patterns forming. There’s a double top at 155, and then some lower shoulders on either side of that double top.
It’s not really a proper head and shoulders so I won’t call it that, but the general bearish idea is the same. The price has peaked and looks to be heading lower soon.
Last week was an inside bar too. That’s a tiny bar in relation to the ones coming earlier. It represents a coiling of energy that will eventually burst out in one direction or another. Personally I think this pair is inevitably headed to 140 and potentially much lower than that based on the historical bearish patterns. Plus the uncertainty over Brexit is unlikely to be bullish for GBP either.
So you can consider going short GBPJPY under the low of last week’s inside bar with a sell stop order.
Now onto this week’s main attraction: what’s behind the current stock market meltdown.
After all, there’s been a lot of head scratching as to the probable cause of the recent melt-down in the equity markets. Analysts are speculating that the catalyst could be a global growth slow-down in growth, or the on-going trade war between the US and China.
However, I have another theory.
I’ve been keeping an eye on certain charts in the corporate and emerging market debt sector. Over the past ten years of “free money” (i.e. super-low Fed interest rates), there’s been an alarming build-up of debt and leverage. While global economies have been on a tear this hasn’t been a concern.
However, central bankers have been raising interest rates lately and unwinding reserves on the balance sheet. There’s also emerging economic bubbles starting to appear in Japan, China and certain segments within the USA. Now the dramatic build-up of debt, and its necessary future unwinding, could have very “unfriendly” consequences across most financial and FX markets.
This is especially true when you consider the recent volatility and unpredictability in the dollar, stock market and gold. And it’s why I’m focusing intently on the movement of interest rates. The outcome of those movements will ultimately yield the answer to the next important moves in these markets.
The key markets to watch include the long bond market iShares 20+ Year Treasury Bond ETF (TLT)… the iShares Hi-Yield Corporate Bond Index ETF (HYG) … and the Leveraged Loan ETF (BKLN). Remember, when viewing HYG, BKLN and EMB, prices move inversely to interest rates.
The 10-year charts below demonstrate that prices are starting to crash through multi-year support levels. This implies interest rates in these very leveraged sectors are climbing inexorably higher.
First, TLT and a look at how this 20+ year Treasury Bond ETF is performing ….
The long term head and shoulders is pretty obvious. And right now the price is at a major inflection point. They’re right at the neckline for that head and shoulders pattern after crashing through earlier.
It seems unlikely that we’ll see prices move much higher above that neckline. That means interest rates are very unlikely to go lower. And that means the end of the bond bubble.
We see further support for this in HYG which is a proxy for high yield corporate debt.
The long rounding top is bearish, and just weeks ago HYG crashed through both key support levels. Again, this means interest rates are going up as it seems unlikely that HYG can rally back through support.
HYG could drop all the way down to the high to mid 70s.
Now BKLN is all about leveraged loans, a very risky asset class (this is the same kind of debt that helped cause the 2008 crisis).
Again, we see that the price has crashed right through the support levels for this asset class. This hasn’t happened for years.
And it’s why the equity markets are so shaky right now. Institutions are getting worried that this could herald the unwinding of all the massive leveraged loans and debt that’s out there. It’s serious enough that it represents a very real threat to overall financial stability.
A big break below the levels seen in these charts will inevitably lead to a credit crisis and a crash in stock prices.
So how’s the stock market doing? Looking at the QQQ (an ETF that mirrors the NASDAQ) reveals a very ominous looking head and shoulders bear price pattern emerging. This chart implies there’s no way but DOWN from current levels.
The double top at the head of the head and shoulders is very bearish, as is the sloping angle to the neckline here.
And right now QQQ is hovering very close to important support levels at 155 and 150. I think we’ll break through those levels anyway, but watch for rallies in the meantime.
Because any rallies are likely to be short lived, they’re an opportunity to get short this market as we enter a long term bear market in U.S. stocks, particularly in the tech sector
One of the best individual stock charts for this thesis is the one for Netflix (NFLX).
NFLX completed a long term double top by crashing through the neckline. We can estimate a downside target by taking the magnitude of the highest top and extending it to the other side of the neckline.
That gives us a $200 target for NFLX. And if the bubble has truly been popped NFLX is likely to go even lower than that.
Meanwhile, what about gold? With current support for USD, I believe it will be difficult for XAUUSD (spot gold) to make any progress on the upside. While I’m tempted to make a short XAUUSD bet at current levels, I’m going to wait until the November monthly bar closes before taking any action.
That’s because we’re seeing an inside bar in the most recent month. And XAUUSD has been in a very tight range for the last four months. When it moves, it’s likely to be an explosive move with all that coiled-up energy released all at once.
While I suspect that release will be downward, I’m happy to wait for this monthly bar to close so we can get some more clues about the near-term direction.
So keep an eye on the short possibilities for EURUSD, GBPJPY and QQQ. Plus the potential debt market crisis that might be unfolding as we watch.
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