Dow Theory spells trouble for bonds: Clouds on the horizon. Part II

Yesterday, in this Dow Theory blog, I promised you that I’d talk about the BLV/GLD ratio. Here we go.

 

Let’s begin with an old post called “Dow Theory spells trouble for bonds: Clouds on the horizon” which you can read here

Go to that post and look at the BLV/GLD chart that is displayed there. In the upper half of the chart, you can see BLV (the long-term bond); in the lower part, you can see GLD (gold). The red line is the ratio, and the green horizontal line is the critical level of the ratio to be violated so that we can say that the ratio has turned bearish.

As you can see on 09/14/2012 the ratio was dangerously close to the green line. Such date also marked the top for most stocks. Since that date almost everything entered a secondary reaction while long-term bonds staged a modest rally.

The modest rebound of the ratio and of BLV has coincided with gold weakness.

However, subsequent market action has changed the relevant lows (green line). Now they are higher. Following a new secondary reaction, the ratio has established new (higher) significant lows to be broken. Here you have an updated chart:

If the red line (ratio) breaks the green line (latest significant low of the ratio) gold will be really to shine

 

What does this new chart tell me?

I see lower lows in BLV which I have highlighted with red arrows. Not a bullish sign short term.

I also see that even a modest decline may break the lower trend-line of BLV. That wouldn’t be a good omen for BLV.

I also see that the relevant secondary reaction of the ratio has changed. When I wrote the first post on the BLV/GLD ratio on Sept 17, the last reaction lows of the ratio were made in early April 2012. Subsequent market action has given us a new secondary reaction of the ratio, namely the pullback of the ratio from 07/24/2012 to 09/14/2012 which is marked with a blue rectangle.

If the new relevant lows of the ratio, those made at the end of the reaction on 09/14/2012 are broken, then bonds will be in a very delicate situation. I reproduce the conclusions I wrote in the post I mentioned, which remain fully valid:

 Conclusions:

1)     The USD is threatened by the primary bull market in gold.

2)     This may spell trouble for US Treasuries.

3)     The BLV/SPY ratio is bullish for stocks suggesting relative weakness of long dated treasuries over stocks (note: this situation continues to this day)

4)     The BLV/GLD is still bullish suggesting the GLD is still not ready to fully shine or bonds ready to die.

5)     GLD is weaker than SLV and SPY further suggesting that Armageddon is not yet with us.

So this is the situation right now. A break of the ratio below the green line may have dire consequences. This is why I wrote in my post of October 5 that:

Really, you are seeing a dramatic chart that epitomizes the fight of the bonds (essentially the USD) against the power of gold. Who will win? My fundamental instincts say that gold; however, you know I attach relative value to my own fundamental forecasts, and such fundamental forecasts may take long to come to fruition (longer than you can stay solvent, as Keynes would say). Thus, I prefer the technical side of the Dow Theory to guide me in a time horizon of 1-2 years. One thing is clear: The chart reflects an epic battle.

Bottom line: Keep an eye on the BLV/GLD ratio. If the ratio breaks down, it may imply a big movement for gold. Even if the Fed goes frantic buying bonds to support them, and hence, you don’t see a breakdown of bonds but merely a violation of the ratio because, while bonds remain stable, GLD begins to go up, this may imply a huge movement for gold. Gold will not be ready for a real take off until the ratio, irrespective of the price of bonds, gets broken.

Sincerely,

The Dow Theorist