Bond Breakout Could Signal End of Economic Expansion

The iShares 20+ Year Treasury Bond ETF (TLT) is trading at an all-time high above $150 on Monday morning, after a two-month advance that accelerated in response to the coronavirus outbreak. The long bond yield has hit an all-time low at the same time, highlighting growing fears of an economic downturn. This price action has taken place in tandem with a seven-year high in gold and major volatility surge, signaling the end of complacency after months of strong equity returns.

The bond fund exploded to higher ground in the summer of 2019, stalling five points above the 2016 peak. Analysts all across the market spectrum “called the top” after the rally ended, but this week’s breakout negates those bearish signals while lifting the instrument within three points of trendline resistance going back to 2009. Price action around that formidable barrier, located near $153, may determine market tone for the next one or two years, with a breakout significantly raising the odds for a major recession.

The current expansion has now reached historic status, entering its second decade, so an end to this cycle carries substantial risks because the U.S. deficit ballooned to $1 trillion in 2019 in reaction to deep tax cuts and heavy military spending. U.S. consumer debt has risen above the peak posted during the 2008 market crash at the same time, raising the specter of major defaults as tax receipts drop and employers tighten their belts to maintain profitability.

The Federal Reserve is likely to cut interest rates if the crisis continues, adding a tailwind to the bond market’s current trajectory. In turn, this could place the United States on a direct path to negative interest rateswhich have taken control in a number of advanced nations. While this action may help to control deficits and defaults in the short term, the long-term consequences could be devastating to the growth curve maintained by the U.S. economy in recent years.

TLT Long-Term Chart (2003 – 2020)

An uptrend topped out in the low $90s in 2003, yielding a pullback that found support in the low $80s. Breakout attempts in 2005 and early 2008 failed, while a vertical uptrend during the economic collapse reached a new high above $123. The fund settled back to earth into the new decade and took off once again in the second half of 2011 when commodities were topping out around the world.

The higher 2012 peak at $132 established a rising trendline that marked intermediate tops in 2015 and 2016. The instrument rolled over and hit a four-year low in the fourth quarter of 2018, with tariffs threatening to choke off growth at the world’s two biggest superpowers. A recovery rally starting from that level reached the 2016 high in August 2019, yielding an immediate breakout that reversed before reaching trendline resistance.

TLT Short-Term Outlook

A bond sell-off into November coincided with a strong equity bounce, underpinned by growing optimism about a trade deal. The fund tested the low successfully in December, generating a trading floor near $135, ahead of a 2020 uptick that has now mounted the 2019 high. Trendline resistance at $153 marks a logical upside target for this advance as well as a line in the sand that bears need to hold at all costs.

The monthly stochastic oscillator is warning equity investors that this buying surge may last longer and carry higher than the low $150s. A bearish crossover in October 2019 established a sell cycle that should have lasted six to nine months at a minimum. However, the bearish signal aborted in January 2020 after the indicator crossed higher near the panel’s midpoint. This structure reveals unusual relative strength that could easily persist into the summer of 2020.

The Bottom Line

The long bond has broken out to an all-time high while gold has rallied to a seven-year high, warning investors that the decade-long economic expansion may be coming to an end.

Disclosure: The author held no positions in the aforementioned securities or their derivatives at the time of publication.