Friday, June 18, 2010

Short Bonds via TLT

So I finally decided to pull the trigger. I have been intrigued with this position ever since Tom Sosnoff got me thinking about it at the Traders Expo this last week. As it is almost imposible to know when the Fed is going to start rising rates, I can say with a high level of confidence that I don't think rates are going to go much lower. The federal funds rate is already at near zero and all of the other rates need to have a spread on top of this rate in order to make any money. So in my opinion there really is no room for rates to go any lower. You can argue that the 20 year rate is around 4% and could go lower and in the hight of the financial crisis did go as low as 2.86% (currently around 4%). But operating on the thesis that the markets will not go into complete meltdown (forcing rates lower and this TLT ETF higher) between now and July '10 expiration I think that my trade makes sense. I sold 2 Jul '10 99/101 call spreads for a $0.44 credit. This leaves my risk at $1.56 per spread. But the 99 call has a 33% chance of expiring in the money which leaves me with a 70% probability of success. I like those odds. But lets take a look at the chart and look at some technical levels that would tell me I am wrong.

As you can see in the chart below, $100 is a clear level of resistance and if this level is breached I would except that I am wrong on this trade. Otherwise this is a starter position that I am willing to add to on an trades closer in the 98-100 range between no and July expiration.


  1. Now this makes sense to me. I agree that rates aren't going to do down, but I think they will stay near zero for quite some time. So I wasn't interested in buying puts or just being short the stock since that would eat buying power and potentially not pay off for a while. So I hadn't revisited this idea but you've given my my answer, selling the call spread instead of owning the put spread or being short the stock makes sense. Your risk is that yields go lower in the short-term, if they did, you roll the call spread out as yields can only go to zero. I think this is a play you keep in mind for the next flight to safety when yields get ridiculously low, assuming yields won't stay low forever you sell the call spread. I might steal this play so I'm giving you credit ahead of time.


    If this link doesn't work let me know, I don't know if this was on the free content of Barron's or the paid side. As we discussed on the phone, I think the bigger risk is yield going lower and not actual FED rates increasing. And yields can only go to zero and theoretically can't stay there very long. I wonder what credit call spreads were yielding in 2008 when yields temporarily went to 0% on bonds. If it was a credit of any kind, wouldn't that be free money? If anybody was willing to pay call premium on the ETF once yields hit zero then that would imply they think yields are going to go negative.

  3. So the TLT has bounced and has been pretty strong. It has also entered into an area that I had said I would add to my position. But since writing this post my market bias has flipped from a neutral one to more bearish and I am not sure being short the market and adding more short exposure to bonds makes since. As panic sets into the market and investors flee into bonds causing rates to come lower and bond prices to go higher.

    I never said this was a risk less trade. I think I may just be a early and is why I started with such a small position. I have not been stopped out of the original trade and will continue to watch this theme as it unfolds and make trades accordingly.

  4. So ironic post here, I just put on a bullish bet on TLT for August. I am currently short an iron condor for July but since I put that on I got more bearish as well. I think I posted that I liked the short puts leg of that trade better than the calls. Since I am now long a call spread in August, I am going to try and close the July short call spread early if I get the chance. If I lose on the short calls for June then it means I made money on the August, so the loss won't be 100%. I'll do a full post for this new trade after market close.