Intermarket Analysis
What Is Intermarket Analysis?
A method of analyzing markets by examining the correlations between different asset classes, such as stocks, bonds, currencies, and commodities.
Intermarket analysis is a branch of technical analysis that studies the relationships between the world's major financial markets. Instead of looking at a stock chart in a vacuum, an intermarket analyst looks at how the bond market, currency market, and commodity market are behaving to get a holistic view of the financial landscape. The core premise is that all markets are interconnected. Money flows from one asset class to another based on the economic cycle. For example, when interest rates rise (bond prices fall), borrowing costs increase for companies, which can hurt stock prices. Similarly, a strong dollar makes commodities (which are priced in dollars) more expensive for foreign buyers, potentially lowering commodity prices. This approach was popularized by John Murphy in the 1980s and has become a staple for macro traders and portfolio managers. It helps in identifying the broader trend and provides early warning signals that single-market analysis might miss.
Key Takeaways
- Intermarket analysis looks at the interplay between four major asset classes: stocks, bonds, currencies, and commodities.
- It is based on the idea that no market moves in isolation; a move in one often triggers a move in another.
- Typically, bonds and stocks are positively correlated in a low-inflation environment but can diverge when inflation rises.
- A falling currency often boosts commodities priced in that currency.
- Traders use these relationships to confirm trends or spot potential reversals.
How It Works: The Four Pillars
Intermarket analysis focuses on four key relationships: 1. **The Dollar and Commodities:** Generally, the U.S. Dollar and commodities move in opposite directions. A weak dollar makes commodities cheaper for foreign buyers, increasing demand and price. 2. **Bonds and Stocks:** In a normal, non-inflationary environment, bond prices and stock prices trend together. Rising bond prices (falling yields) lower borrowing costs, boosting stocks. However, during inflationary periods or when the Fed is hiking rates, this relationship can decouple. 3. **Bonds and Commodities:** Usually, bond prices and commodity prices move inversely. Rising commodity prices signal **inflation**, which hurts bond prices (pushing yields up). 4. **Stocks and Commodities:** Stocks and commodities often move together during economic expansions, as demand for raw materials rises with corporate growth.
Using Intermarket Analysis for Trading
Traders use these correlations to confirm a thesis. If a trader sees a bullish setup on the S&P 500, they might check the bond market. If bond yields are spiking (bond prices crashing), it might signal a headwind for stocks, suggesting the breakout could fail. Conversely, if the dollar is breaking down through key support, a commodities trader might take that as a green light to go long on gold or oil. It is also used for sector rotation. If commodities are rallying, energy and materials stocks should outperform technology or consumer discretionary stocks. This "top-down" approach allows traders to align their positions with the prevailing macroeconomic currents.
Real-World Example: The 2022 Inflation Shock
In 2022, intermarket analysis provided clear signals. 1. **Commodities (Inflation):** Oil and agricultural prices soared. 2. **Bonds (Yields):** Bond markets crashed as investors demanded higher yields to offset inflation. The 10-year Treasury yield spiked. 3. **Stocks (Valuation):** The rise in yields compressed valuations for growth stocks. The Nasdaq plunged. 4. **Currency (Flight to Safety):** The U.S. Dollar ripped higher as the Fed hiked rates aggressively. An intermarket analyst seeing the breakdown in bonds and the breakout in commodities would have been wary of buying the dip in tech stocks, correctly anticipating the bear market.
Limitations
Correlations are not static. They can change or "invert" depending on the economic regime (e.g., deflation vs. inflation). Relying on a historical correlation without understanding the current context (like a liquidity crisis where *all* assets sell off together) can lead to losses. Intermarket analysis requires constant re-evaluation of the relationships.
FAQs
Currently, the relationship between the U.S. Dollar and commodities is one of the most reliable. However, the bond-stock relationship is arguably the most critical for general equity investors.
Not always. While it hurts multinational companies with foreign revenue, a strong dollar can also attract foreign capital into U.S. assets. The impact depends on *why* the dollar is strong (e.g., strong U.S. growth vs. global crisis).
Interest rates are the bridge between bonds and stocks. Rising rates (falling bond prices) increase the discount rate for future earnings, lowering the present value of stocks. This is a core tenant of **intermarket-analysis**.
Yes, but it is more effective for swing trading and trend following. Intraday correlations can be noisy, but day traders often watch the 10-year yield or the Dollar Index (DXY) for clues on market direction.
Decoupling occurs when two markets that usually move together (correlation) start moving independently or in opposite directions. This often signals a major shift in the underlying economic environment.
The Bottom Line
Intermarket analysis is the study of the financial ecosystem. It recognizes that no asset class is an island. By understanding the push and pull between stocks, bonds, currencies, and commodities, traders can gain a significant edge. It provides the "why" behind the price action. While complex, mastering these relationships allows investors to spot turning points earlier than those looking at a single market. Whether confirming a trend or spotting a divergence, intermarket analysis is an essential tool for the modern trader who wants to see the big picture.
More in Technical Analysis
Key Takeaways
- Intermarket analysis looks at the interplay between four major asset classes: stocks, bonds, currencies, and commodities.
- It is based on the idea that no market moves in isolation; a move in one often triggers a move in another.
- Typically, bonds and stocks are positively correlated in a low-inflation environment but can diverge when inflation rises.
- A falling currency often boosts commodities priced in that currency.