What Do U.S. Bonds and Chinese Stocks Have in Common?

On Tuesday I showed you a chart of China’s Shanghai Index, specifically the down-sloping channel this index has traded within since mid-2009.

Today let’s take a look at the exact same technical patternrn I’ve identified in 30-year Treasury rates.

First, consider what 30-year U.S. Treasury rates and the Chinese stock market have in common… not much. There is simply no correlation between these two. Yet both currently show a remarkably similar technical patternrn – a well-defined, down-sloping price channel.

This patternrn is characteristic of a corrective move. It’s the market’s natural tendency to restore its equilibrium after a wild, market-distorting run.

For Treasury bonds, the wild move occurred between 1978 and 1986. Rates first spiked, jumping from under 8% to over 15% between ’78 and late ’81. Then, over the following four years, rates collapsed back down below 8%. Take a look…

 

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China’s Shanghai Index also experienced a wild price swing. This index rocketed 185% higher in just one year (2007 – 2008), only to collapse to its original starting point another year later (2008 – 2009).

Now, both the Shanghai Index and 30-year Treasury rates are trading in these tight channels. This provides a good bit of predictability for future moves. Take a look at the 30-year Treasury rates since 1985…

 

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If rates continue to trade within this channel, we should see the current, short-term uptrend end between 3.7% and 4.0%. What’s more, by projecting the channel forward into the future, I see we’ll be at 0% in about 12 years, if the current trend continues at a similar pace. Of course, this isn’t likely, but simply illustrates the point that deflationary pressures have “room” to play out for nearly another decade.

There’s nothing that guarantees rates will remain tightly contained forever and this down channel will certainly be broken at some point. We’ll have good warnrning though. A break above 4.0% will rightly renew the discussion on the threat of inflation. But until then, deflation is the name of the game.

Adam O’Dell

Using his perfect blend of technical and fundamental analysis, Adam uncovers investment opportunities that return the maximum profit with minimum risk.