Update on Surging Bond Funds TLT and IEF

Aug 12, 2010: 11:07 AM CST

With the Federal Reserve announcing a policy to buy 2-year and 10-year Treasuries, naturally bond/note prices have been rising … some would say skyrocketing recently.

It’s not just the Fed – it’s investors spooked about the future of the stock market who are selling stock positions for the safety of bonds.

Let’s take a look at the two leading bond/note ETFs:  The 20+ Year TLT fund and the 7-10 year IEF.

First, the popular long-term TLT:

One thing to remember is that shorter-term maturities are moving higher more rapidly than the TLT – 20+ year fund – which actually is caught in a 4% trading range between $98.00 and $102.00 as seen above.

Bond funds are ‘supposed’ to be stable, not volatile in either direction, but in the case of panics, these funds can move higher sharply as equities sell-off sharply.  That was the case during the end of 2008 and recently for May’s “Flash Crash.”

I’ve written on how key breakouts above resistance in TLT and IEF forecast something ‘big’ negative brewing in the equity markets, and two days after the breakout – the “Flash Crash” sent the Dow down 1,000 points.  Sometimes bonds have a lead over equities – and the relationship is generally inverse… what’s good for bonds may not necessarily be good for stocks.

See my prior update “If You Want Clues to Likely Stock Reversals?  Watch TLT and IEF.”

Where are we now?

Price has stagnated in a trading range on declining volume and momentum.  That doesn’t tell us a whole lot, but a breakout above $102 would likely continue to be bearish for the stock market just as a breakdown under $98.00 could be bullish for stocks.

Remember, bonds and stocks tend to compete for investor capital – and investors buy bonds via selling stocks in times of fear then sell bonds and buy stocks in times of ‘all clear.’

Watch these levels for clues – price caught in a range only tells us there’s a battle between buyers and sellers.

I think better insight may come this time from the IEF.

Next, the intermediate term IEF:

Surprisingly, the 10-year ETF has been rallying almost non-stop since the false breakdown (bear trap) in early April.  Even that was a warning sign.

Remember that stocks peaked in late April and bonds – at least the IEF – bottomed in EARLY April.  When bonds bottom and start to rise, that’s often a warning sign for trouble ahead for stocks.

Now that the 10-year Fund has broken to new lifetime highs – one can assume this is quite the bearish development for stocks.  Remember, 2-year yields recently hit lifetime lows under 0.5%.  That means big bond investors are willing to – basically – receive no return on their cash in their bond position for the exchange of the money being safe.

A return of 0.5% is far superior to a stock market decline of 10%, 20% or greater.

It’s definitely something to keep watch on.  Any sudden deterioration in these bond funds would be very bullish for stocks… just as further surging higher in price here would likely be bearish for stocks – in general terms.

For reference, if you want to view even shorter-term Treasury ETFs, try IEI for the 3-7 year Treasury Note or SHY, the 1-3 Year Fund.

Corey Rosenbloom, CMT
Afraid to Trade.com

Follow Corey on Twitter:  http://twitter.com/afraidtotrade

2 Comments

2 Responses to “Update on Surging Bond Funds TLT and IEF”

  1. Jayhawk91 Says:

    Good stuff.

  2. Hellogmk Says:

    Great post.
    The long end of the swap curve, especially the 30 year swap spread implies big touble down the road.
    http://realmarkettrend.blogspot.com/