Updating that Pesky Sideways Rectangle and Breakout in Bond Funds IEF and TLT

Dec 19, 2011: 2:55 PM CST

It’s understandable if you’ve forgotten about the bond market with all the activity centered on the stock market along with the recent multi-month sideways “rectangle” pattern in Bond Prices, but if you haven’t checked a recent leading Bond ETF chart, now might be a good time to do so.

Let’s start with the popular 7-10 year Treasury Fund IEF to see the current structure:

We’ll break the chart down in steps to make it easier.

First, notice the sideways Rectangle Pattern that developed between the $105 Upper Resistance Line and $102 Lower Support Line.   The $103.25 level is the “Fair Value” or “Midpoint” of the pattern.

What’s been frustrating about this pattern is that price has “poked through” on both sides three times, yet returned back inside the pattern for a classic “Trap” in both directions.  Yikes.

The recent breakout today to new highs should draw your attention to the bond market – or at least the IEF and TLT ETFs for a simple question:

“WILL this breakout hold and continue higher… or is this the third bull trap since September?”

Let’s look to volume and moment for chart-based clues first.

So far, both indicators are diverging negatively – suggesting the probabilities from these variables suggest “Trap!”.  Dually noted.

Non-confirmations or negative divergences are caution signs at a minimum, and often are early warning signs of a price reversals ahead.

Adding another important indicator into the mix, we see a very BULLISH structure to the rising 20 and 50 day EMAs (green and blue respectively), along with a rapidly rising 200d SMA – all of which suggest higher activity as long as price remains ABOVE the 20 and 50 day EMAs.

Stepping back to a simpler observation of the trend structure, we see a persistent rising trend, though that’s best seen on the higher Weekly Timeframe:

We have a long-term or Primary rising uptrend (evidenced by bullish EMA structures and the series of higher highs and higher lows in price).

We’re also seeing the same persistent negative momentum and volume divergence that appears on the daily chart.

With Volume and Momentum suggesting caution/trap in an otherwise very bullish trend structure, let’s rewind to a very similar chart-based situation that developed in late 2010.

From August to November 2010, we see a similar bullish rising short-term and intermediate trend though Volume and Momentum showed classic negative divergences into November.

We can see the downward resolution in Bond Prices that occurred concurrently with the Federal Reserve’s “QE2” or Quantitative Easing (round 2) program… but that’s another story beyond the charts.

The current lengthy negative divergences in volume and momentum cross-check the bullish trend structure in place, along with the dominant short-term trendlines as seen above in the daily chart.

For comparison, here’s the picture in related Treasury fund TLT (minimal annotation):

What’s the bottom line for bond prices/these ETFs?

Watch price relative to the $105 breakout area – as long as bond prices remain above the Rectangle Breakout, we have probabilities favoring the buyers/bulls…

but a return back under $105 suggests a third “Trap” and likely continued downward retracement lower as suggested by the divergences in momentum and volume.

Another way to frame the current situation is to ask the basic question:

“Will History Repeat (from late-2010’s similar situation)?” or the ever famous “Will this Time be Different?”

Corey Rosenbloom, CMT
Afraid to Trade.com

Follow Corey on Twitter:  http://twitter.com/afraidtotrade

Corey’s new book The Complete Trading Course (Wiley Finance) is now available!

9 Comments

9 Responses to “Updating that Pesky Sideways Rectangle and Breakout in Bond Funds IEF and TLT”

  1. zstock7 Says:

    other than finding a few good longs to try yesterday, nothing in my charts signaled an UP trend day, for today.

  2. Dominick Says:

    Hello Corey. It is a little off topic but are you watching the triangle forming in the spy?

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