From Fall Melt-Up to Winter Resolution
We appear headed for a Winter Resolution whereby a true direction takes hold as we end the volatile sideways movement that US markets have been in this year.
All truth passes through three stages. First, it is ridiculed. Second, it is violently opposed. Third, it is accepted as being self-evident.
Now that we've ended the Fall yesterday (with an enormous move up, ironically), it's time to start thinking about what comes next. I believe we likely will see an end to the volatility and overall insanity markets have expressed over the past few months much sooner than investors are anticipating.
This also means that the question of which is right, the bond market or the stock market, will get answered definitively. And so the progression goes from calling for a Summer Crash, Fall Melt-Up, to now the Winter Resolution of 2012.
Take a look below at the price ratio of the long bond as proxied by the iShares Barclays 20-Year Treasury ETF (TLT) relative to the S&P 500. As a reminder, a rising price ratio means the numerator/long bond is outperforming (up more/down less) the denominator/S&P 500.
I've taken the ratio back to 2002 and highlighted the significant periods of spikes in the outperformance of bonds to equities to show where we are relative to history. The Winter Resolution is the idea that the current levels of the Bond/Stock ratio are unsustainable, and that we likely will experience either a repeat of 2002-2003/2010 (which would result in a significant boom in equities), or something similar to 2008-2009 when Lehman failed and a credit freeze took hold globally.
The pattern has expressed itself for some time now, and likely will resolve itself much sooner than investors expect given the length of time the ratio has stayed elevated. A Winter Resolution will result in a definitive move either up or down in the above ratio.
It is unclear which way markets will go. So long as central banks are able to get ahead of a Lehman-like event, the Bond/Stock ratio likely will decline with equities rallying in the first quarter. What is more clear is that the ratio will likely chose a true direction to go in the beginning of 2012, and that the sideways bull/bear tension experienced in the US likely will end with an end to the volatile sideways action of the S&P 500 this year.
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