Yesterday, Joel Bowman in The Rude Awakening said this about the Dow: “The world’s largest market is acting like a big baby, stomping its feet and lashing out in a wild flurry of volatile daily mood swings.

“[Tuesday's] melee produced another triple-digit swing for the Dow Jones Industrial Average; the eighth time the feisty index has jerked 100 points or more over the last twelve trading days.”

The average moving day average for the Dow so far this month is about 175 points. So how do investors know when to buy back in? The answer is simple, says Eric Roseman in The Sovereign Society, look to the credit markets…

Basically, if we’re seeing a big stock market rally, then we should also see a rally in yield spreads. In theory, a stock market rally means the risk-taking environment is improving. If investors are lunging after stocks, including the banks, then credit markets should also thrive.

Last week, the Dow gained 2.9% while the U.S. dollar had its best weekly rally in six years. Commodities prices continued to nosedive. That sort of bullish price action for stocks and the dollar should have driven non-government bond yields sharply lower. But that simply didn’t happen.

From August 1 to August 8, 90-day LIBOR rates climbed only one basis point from 2.79% to 2.80%. And 30-year fixed rate mortgages climbed from 6.35% to 6.55%.

The only segment of credit that posted a rally last week was investment-grade corporate debt where yields declined from 6.08% to 6.05%. That’s not exactly a huge gain.

Finally, what really irks me about this rally is the Treasury market.

On big days for stocks, like last Friday, the benchmark 10-year Treasury bond posted a modest loss or a decline of 4/32nds. Typically, a big stock market rally would drive Treasury bond yields much higher because investors dump staid T-bonds for equities.

Heck, if the world is chasing stocks doesn’t that suggest we’re growing more bullish on the economy? It doesn’t look that way.

The fact is T-bond yields were unchanged from August 1 to August 8 while stocks gained 3%. This tells me bond investors don’t believe we’re at a stock market bottom. In fact, intermediate Treasury bond prices are unchanged since July 15 as stocks have rallied.

There’s something fishy about this equity market rally.

Examining credit markets is not an exact science nor is it a perfect forecasting tool. But it sure beats the stock market where crowds of neurotic and momentum-based investors chase daily trends to make a buck.

My diagnosis: It’s still not the time to fully embrace equities. Listen to credit.

Source: Credit Market Says: Don’t Buy Stocks Yet!, Part II