Investment-grade bonds trigger a breadth thrust buy signal

 Key points:

• A ratio between investment-grade bond advancing and declining issues surged higher
• The burst in participation triggered a new breadth thrust buy signal on Friday
• Investment-grade bonds have rallied 87% of the time after other signals
• Stocks have rallied 93% of the time after other signals

Investment-grade bond advancing issues are outpacing declining issues

The breadth thrust model identifies when the 10-day sum of investment-grade advancing issues exceeds the 10-day sum of investment-grade declining issues by a ratio of 1.41. I use a reset condition to screen out repeats, which requires the ratio to fall below 0.81 before a new signal can trigger again. Please click here to see the previous alert from July 2021.

The IG bond breadth ratio has reached the highest level in almost 2 years.

Similar surges in participation preceded gains 87% of the time

This model generated a signal 15 other times over the past 16 years. After the others, investment-grade bond future returns, win rates, and risk/reward profiles were solid across almost all timeframes. The signal shows a positive return at some point in the first 3 months in all instances. The FINRA bond data started in 2005. So, we need to be mindful that inflation and Fed policy are unlike anything we've seen in the data's history. Interestingly, the 2008 signal never showed a loss even though stock indexes continued to decline for an additional 4 months.

What happens when I apply the signals to the S&P 500

The S&P 500 shows excellent results across all time frames. The IG breadth thrust signal is a TCTM new bull market composite member. While the 2008 alert was early, other instances like 2015, 2018, and 2020 were timelier in identifying an all-clear signal for stocks.

What the research tells us...

When the ratio between investment-grade advancing and declining issues surges in favor of advancing issues, the burst in participation typically leads to more favorable price momentum. Similar setups to what we're seeing now have preceded rising prices for an investment-grade bond index across every time frame, with solid results in the 3-month window. When I apply the signals to the S&P 500, performance looks excellent.

Bonds, like stocks, are off to one of the worst starts to a year in history due to inflation and Fed policy. If you recall, I shared a bullish reversal signal in the Optimism Index for the 20+ year treasury bond ETF (TLT) last week. I would also note that high yield bonds show positive momentum of late. If high yield bonds were to trigger a breadth thrust buy signal, the narrative around the bond market might need to switch from relief rally to cyclical upswing. 

I'm on vacation this week. Research notes will be limited.