HYG As A Leading Indicator

We've been using HYG, High Yield Corporate Credit, as a leading indicator for several years now. HYG should not be confused with the High Yield sector (credit) as a whole. Credit is rarely traded by retail, but it's a very popular asset to trade among smart money.

Before the Lehman crisis, large traders/firms would put together baskets of credit for diversification which mainly came form banks and they'd essentially trade a risk on move in the market with HY Credit and when it was time to move to safety, they'd sell HY credit and move to IG (Investment Grade). However, as banks started selling off their credit exposure in the wake of Lehman, there was less and less liquidity in the HY (conventional) market for them to put together diversified baskets as opposed to just 1 HY credit type like HY municipal bonds.

Then came along HYG, a diversified HY corp Credit ETF with lots of liquidity which is what most of these large firms are using now, however because it's so well known as a liquid instrument that large traders can use, it's often manipulated short term or as the credit markets are generally better informed than the equity markets, they may front run a move before equity makes the same move, thus the saying "Credit leads, stocks follow"; if that's true the market is in for a world of trouble.

Other paid institutional advisories like Capital Context run their ES model vs fair value to see where divergences are and the model is made up of numerous assets from bonds/rates, credit, currencies, commodities, etc. However, their SPY Arbitrage model is expressly made up of 3 assets, HYG, TLT and VXX.  When HYG is up it's a risk on mode, typically at the same time TLT (treasuries) will be down and VXX (VIX futures will be down as there's little appetite for safe haven/protection assets in the middle of a risk on move so the SPY Arbitrage model runs something like this, HYG up/VXX and TLT down and it's compared to the SPY to see where there may be pockets of divergences.

Again, HYG is one form of HY credit, Corporate with good diversity in that form and good liquidity, but it's not representative of HY credit as a whole. We've been using HYG as a Leading Indicator to help forecast market moves.

I'm going to show you the charts of HYG as it has a strong influence on the market, but I'm going to ask that you do this part for yourself. We know the market's base for this August rally started on 8/1 and lasted through 8/8 with the following Monday, 8/11 being the start of stage 2 from the base.

Overlay HYG from 8/1 to present over SPY/SPX and you'll see a couple of days in to the base that we had predicted as early as after market July 31st on a day the SPX was down 2%, HYG was already moving up and leading the stock market while most of the market was basing sideways with a few averages basing, but leaning toward lower lows. Through 2/3rd of the rally you'll still notice HYG is leading the market, then HYG started moving lateral (sideways) which is a sign of stage 3 or a top. Again HYG is leading the market, this time it's early in to the top just as it was early in to the base, just like the saying, "Credit leads, stocks follow".

I've showed you this in many charts this month, but seeing it for yourself really lets it sink in and hopefully this will become a useful tool for you.

As for what the 3C charts for HYG look like, they are right in line with price action and cycle staging.

 This is HYG with a deep leading negative divegrence on a 4 hour chart as of July 30th just before it made a sharp move lower to it's August 1 low, which is when the market base started, although HYG started up well in advance of the market as you'll see when overlaying the two assets.

 This is the 60 min chart showing the post July 30th decline to 8/1 lows and up from there while the ,market based for nearly another week.

Also note current distribution in HYG as it's now in its 8th or 9th day of lateral / topping stage 3.

The 30 min chart is the first chart we actually see accumulation in HYG, meaning the longer term charts would have shown heavier accumulation if they were positive, so this was accumulated and run up for a reason, just not in huge size and for a very short period which is now spent as the chart leads to a new leading negative low.

The same concept is on the 5 min chart, note the distribution at the flat stage 3 range.

And the 2 min trend shows the same, of course the accumulation looks stronger here as it's only a 2 min chart, but again we are at a new leading negative low, it shouldn't be long before HYG turns lower and it shouldn't be long before the market is right behind or with HYG.