The study of the relationship between different markets using technical analysis is called Intermarket analysis and is a relatively recent development.
The Intermarket analysis uses technical analysis to identify market trends and their correlation. Thus a different but related market is used to call turning points and trends in another market. There are three primary relationships that Intermarket analysts follow.
Stocks versus Bonds
Bond prices usually move in the same direction as stock prices, mainly due to the influence of interest rates. Falling interest rates are favorable for bonds and equities. A key point to remember here is that the bond market (or prices) historically peaks and bottoms before the stock market.
Bonds versus Commodities
Inflation is terrible for bond prices. Therefore, analysts closely follow commodity markets as a leading indicator of inflation. When commodity prices begin to trend higher – as measured, for example, by the iComdex Composite, a widely watched composite of different commodities published by the MCX of India, market participants look for emerging inflationary signs, which can lead to central banks raising interest rates and thus lower bond prices.
Commodities versus Currencies
Nearly all commodities globally are transacted in U.S. dollars. A weakening U.S. dollar benefits commodities, and rising commodity prices put downward pressure on the U.S. dollar. The economy of most countries is resource-based, i.e., significantly affected by commodities, and is highly correlated to commodity prices. Generally, a rising currency benefits a country’s stock and bond markets. In contrast, a weakening currency benefits stocks of global and multinational companies more than smaller-capitalization stocks as smaller companies are less dependent upon international sales.
Bottomline: Intermarket Analysis is Essential in Multi-Asset Portfolio Management
Intermarket analysis can be applied wherever there is an interaction among asset types. For example, metal prices may lead to directional changes in metal stocks. On the other hand, oil exploration and seismic information companies should feel the slowdown if energy prices are peaking.
Intermarket analysis can provide the fundamental relationships linking asset classes and investment recommendations. Of course, together. It takes some thinking “outside of the box” to keep the investment outlook on track, but in this competitive world, it’s worth essential.