The market news today is a bit disconcerting. We had quite the rebound recently in the US stock markets as optimism about corporate earnings and job gains were signaling an economic rebound. But that rebound didn’t last long, as markets are down today on news that US Treasury bond rates continue to rise, as per this quick eye chart from CNBC.
CNBC headlines read “Stocks snap two-day winning streak as 10-year yield hits highest level since 2008”. At this moment, the 10-year US Treasury bond rate has spiked up to 4.14%. While certainly not an insurmountable level, the continued rise of the benchmark treasury indicates that analysts do not see us emerging from the current economic downturn just yet. The following chart of the 10-year illustrates the story.
The chart shows what should be an overheated 10-year treasury bond market which is due for a correction. The first sign is the breakout against the 50 and 200-day moving averages, indicating bond rates are not only rising, but accelerating when measured against the recent past.
Secondly, the RSI (relative strength indicator) is often used by traders to tell when an investment is overbought (too much euphoria) or oversold (too much pessimism). When the RSI indicator tops 70, investors should expect a downside move. When below 30, investors should expect an upside move.
But despite the 10-year bond popping above 70 on the RSI signal, yields keep rising which will attract new investors to the bond space. After all, rising rates are good for purchases if the expectation is the rates will stay elevated. More importantly, it means bond investors are constantly changing their expectations for higher yields, mostly because of the Fed (US central bank) raising the federal funds rate multiple times this year. The RSI tells us the market has an expectation of rising bond rates on this knowledge.
The MACD (moving average convergence divergence) offers a different perspective than the RSI. It offers investors an indicator of when to sell or buy based on a comparison of three short-term moving averages, typically the 26,12, and 9 day. MACD can be seen as a short-term momentum indicator.
The bars on the MACD show how far apart the two moving averages are. We can see on the 10-year bond chart how wide the divergence between the MACD lines is. All of this is to say that while bond rates are running up, we have had wilder swings on the MACD indicator. I would say this means investors are unsure as to what direction the 10-year bond should really take, and indicates some level of confusion in the long-term benchmark US bond rate.
Confusion Reigns At the Moment
All of this is to say that bond traders are not exactly sure where US 10-year rates should end up, but they keep trading it as it goes higher and higher. Investors are seeking yield and taking advantage of what the bond market is giving them. But the MACD pattern also indicates a fair amount of pessimism in current rates, and that a significant number of traders believe rates should stabilize or fall. Which has not yet happened.
However, this is not the only important indicator of the stability of the US debt market. Another is the relationship between the 2 and 10-year yields. When the shorter-term bond rate rises higher than the longer-term rate, it is said that more near-term risk exists than is typical, and bond investors are expecting an economic pullback or recession.
Treasury Yield Curve Inversion
Thankfully, the economists at the Fed pay attention to this and have developed a chart for the relationship as shown below.
While a busy eye chart, the indication of the direction of the bond market is clear. When 2-year bond rates rise above that of 10-year, as indicated on the chart with the orange markings, a recession follows. In fact, this recession indicator is so accurate that it has never failed to predict a US recession since it has been measured. And the yield curve has been inverted already for several months this year.
It is very CLEAR that the bond market expects a near-term recession. And that is what I believe will happen as well. How bad the recession depends on the underlying economic data, which you can follow in my weekly market wrap-up videos located on JM Bullion’s YouTube channel.
Gold vs Bond Rates
The last chart we will examine shows the inverse relationship between gold’s price and the yield on US 10-year bonds. See the chart below.
Typically, when bond yields rise, investors pile into debt for the return and eschew gold. This forms an inverse relationship between gold price and 10-year bond rates. It also explains why since late 2020 when bond rates began their most recent rise, gold prices have begun to free fall. After all, why own gold (which has no interest rate of return) when bonds provide investors with more return?
The difference is that we are now in a rising inflation environment, where inflation rates are much higher than bond yields. Bond investors aren’t going to have a positive return when they subtract 8.3% CPI inflation rate from their 4.14% bond yield, a condition known as negative “real” interest rates. Soon, bondholders will eschew US treasury debt and flee back to gold. Because gold typically does its best during periods of persistent negative real interest rates.
Final Thoughts
Bonds are telling us that risk is clearly rising in the financial markets. And while bond investors are clearly confused as to what direction the 10-year rates should go, they continue to gobble them up. This will change as bond investors tire of the negative yields they are getting due to high price inflation in the US.
A ‘turn’ should be coming in the gold markets based upon these factors:
- Negative real interest rates (bond rate minus the CPI)
- Economic recession
- Rising federal funds rate
Those factors alone are bullish for gold and bearish for bonds going forward. It just takes time for the market to accept what the bondholders already know – we are definitely not out of the woods yet.
