Seasonal Sector Trades: Long Bond Late April Rally By: Jeffrey A. Hirsch & Christopher Mistal | April 12, 2016 | Email | Print

The long bond tends to bottom sometime during Q2, typically around the time the stock market reaches its highs, and then enjoys a solid run of strength into Q3 and beyond in some years. Note seasonal strength shaded in yellow in chart below.  Bonds are also a relatively safe place to park capital during the “Worst Six Months” of the year, May through October.

 

As featured in Commodity Trader’s Almanac 2013 (perhaps a 2017 edition will be produced), when investors feel threatened with a potential decline in the stock market, they often allocate more money into bonds. This is often referred to as the “flight to safety” trade. Investors and traders will also allocate more money to bonds when they believe the yield is more attractive than other shorter-term investment options. 

 

There is no doubt that both of those conditions were met in late 2008 through early 2009. However, even in that unprecedented time, 30-year bond price action did respect a seasonal supply-demand cycle. By going long, the September 30-year bond on or about April 26, and exiting the position on or about August 21, we discovered in the last 38 years a respectable 68.4% success rate. This trade has a history of 26 wins with 12 losses; the largest win was $20,250 in 2011, and the largest loss was $17,031 in 2013. The trade’s track record of the last 27 years (shaded in grey in table below) is even better with 20 gains and a success rate of 74.1%.

 

The 2009 stock rally off the bottom of the worst bear market since the Depression drove bonds lower. However, if one waited and used timing tools then we would have seen substantial gains. In 2013, this trade was a bust as the Federal Reserve began telegraphing a reduction in QE and stocks were having their best year in over a decade driving demand and prices for the 30-year bond lower. Although the specter of Fed interest rate hikes looms large, this trade will likely still perform this year as our bond yields remain attractive to foreign buyers. Our 30-year Treasury bond yielding 2.6% does compare quite favorable to Germany’s 0.87% or Japan’s 0.40%.

 

 

Stock traders may consider the exchange-traded fund, iShares 20+ Year Bond (TLT), as a replacement for the futures contract. TLT has nearly $10 billion in assets, typically trades more than 9 million shares per day and has a reasonably deep and liquid options chain available. TLT’s expense ratio of just 0.15% is very reasonable and its yield of around 2.4% is also attractive. 

 

 

Stochastic, MACD and relative strength indicators applied to TLT had improved substantially since mid-March, but have begun to turn less positive. TLT’s current pullback appears to be setting up a much better entry point for new long positions. Economic growth is tepid, wage growth is sluggish and inflation remains subdued which is likely (and highly expected) to slow or perhaps even delay future rate hikes by the Fed. This trade overlaps nicely with last week’s trade idea of adding a half position in TLT to the Almanac Investor ETF Portfolio on dips below $129.75. This trade is tracked in the ETF Portfolio.