March 11, 2011 - The Bear Market in Treasury Bonds Takes a Breather

Featured Trades: (THE BEAR MARKET IN BONDS TAKES A BREATHER), (TLT), (TBT)

2) The Bear Market in Treasury Bonds Takes a Breather. I have been a huge bear on the Treasury bond market, much to the delight of my readers for the past six months, who have made fortunes from this advice. I know that I have said that you must sell every rally for the next ten years. But markets have to breathe, and nothing ever moves in a straight line.

I therefore believe that the bear market in bonds is about to take a brief rest. Ben Bernanke's QE2 has resulted in massive buying of long dated Treasury bonds, and I think he will be sitting on the bid all the way up to the last day of the program on June 30. This will provide some support for bonds for at least three more months.
I also think that all asset classes generally, and equities specifically, will be subject to some profit taking and a 'RISK OFF' trade in coming months.

This could generate a flight to safety bid for government paper. It won't be off to the races for Treasuries. I'm looking for a rally of only a handful of points. That is why I'm not bothering actually going long bonds. Perish the thought. Take a look at the chart below, which shows that a short term 'head and shoulders' bottom may be developing for long term Treasury bonds. This is what the markets are struggling to tell us.

I happen to know that several big hedge funds are taking advantage of these market conditions by selling short near dated puts on 10 and 30 year Treasury bond futures. One of the purposes of this newsletter is to keep you informed about what the big boys are doing. This is what they are doing. We are running a fairly light book these days, so you should have plenty of room to accommodate a trade like this. If you are lacking clearance for level four options trading and are unable to execute a trade like this then just watch and learn.

If you are unable to short the puts outright, you might consider buying the (TLT) on a dip outright, with an eye towards picking up a few points. But keep in mind that this is a higher risk lower return trade, the kind I try to avoid. It also requires a pretty fine ability to trade the market short term, which may be beyond the means of many of you. A long position makes nothing at all if the (TLT) doesn't move, while the short puts trade reaches its maximum point of profitability.

The best case scenario for the short put trade is for the Treasury bond market to hold it together for three more months, and then go to hell in a hand basket after your short puts expire. Then you can merrily skip back over to the short side and reinvest your new profits.

Even Bears Need to Take a Rest

Always Nice to Know What the Big Boys Are Doing

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