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How to Tell a “Sick” Stock From a “Healthy” One

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I can tell just by looking…

As a parent of three young children, I know if something is amiss with one glance. A ball broke the picture in the living room? There’s a look for that.
You’re asking me for more candy when your mom already said no? There’s a look for that.

Illness also has a look like no other. As soon as one of my kids comes down with a bug, their tired face is all I need to see.

And a sick stock market has the same distinct look.

Years of experience have trained my eyes to know when something is wrong. The warning signs started piling up at the start of the year, and they keep getting worse.

That’s because developments in another market have me worried that the illness has yet to run its course.

A $123 Trillion Warning Signal

Bond markets don’t receive nearly as much attention as the stock market despite clocking in at $123 trillion, which is nearly $18 trillion bigger than the value of all global equities combined.

It’s another area I closely monitor for signs of financial market stress.

And one by one, the warnings keep piling up…

Interest rates across different maturities are surging to their highest levels in years. The 10-year Treasury yield hit 3.44% today … the highest in over a decade!

At the same time, spreads on high yield (i.e., junk) bonds are also surging higher this past week. This spread measures the difference in compensation that investors demand over a safer asset, like a U.S. Treasury bond. A rising spread is a sign that investors are worrying more about financial distress for companies in poor financial health.

You can see in the chart below, spreads have turned up again and are trading near the highest levels in almost two years:

More than just “taking the temperature” of a potentially sick market … you can also use the same information that drives these junk bond spreads to make profitable stock bets.

Here’s how I turn factors impacting the bond market into rapid stock market gains.

Turn Low Quality Into High Profits

Lately, I’ve shown you how I use a wide range of different quantitative factors to find trading opportunities … allowing us to profit from the upside and the downside.

Last week, I showed you how I use analyst profit revisions to target changes in financial outlooks. And here, I showed you how to use momentum factors to stay on the right side of the trade.

Credit factors are another tool I use to zero in on the very best trading opportunities. As the bond market gets jittery, credit factors tell you the risk that a corporate default could loom. They evaluate things like a company’s balance sheet health and ability to repay debt.

In this bear market, it’s crucial to be able to distinguish the “healthy” companies from the “sick” ones. Credit factors excel at pinpointing which companies have a higher risk of financial distress, which can drive down their stock price.

On several different occasions so far this year, I’ve recommended put options to my Flashpoint Fortunes subscribers — which allowed us to profit as low-ranked stocks sank fast in the first half of 2022.

As a result, even as stocks sank across the board, we still came out ahead. So far this year, my recommendations have delivered an 88% win rate and some much-needed quick cash for subscribers. I’m happy I’ve been able to help them through these last few months.

But now … I’m seeing something even bigger on the horizon.

I’m talking about mountains of cash, upward of $2 trillion, driving unprecedented stock moves behind the scenes. Once you start following that paper trail, the results are downright shocking.

And I’ll tell you all about it in a special episode of Your Money Matters with Ted this coming Tuesday.

You absolutely do not want to miss this special broadcast.

I want to make sure you’re among the first to see it, so click HERE to reserve your spot for the preview showing!

Best regards,

Clint Lee
Research Analyst, The Bauman Letter

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