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Have U.S. Treasuries Topped and Where are They Headed Next?

Aug 23, 2012
Chad Karnes, CMT

The Federal Reserve meets in Jackson Hole this week and the prevailing thought is they will not announce any new stimulus. Whatever they announce we are watching key price levels to tell us how to trade the treasury market.

One tried and true investment theme over the last year, last decade, and the last three decades is that bonds have been the place to put your money instead of stocks.  Recently, a short term top in bond prices has played out and yields have started to rise. Is this the major trend change everyone is waiting for?  Below I break down how we have followed this potential trend change and what is next.

Perma-Bulls?

We have been bullish on bonds for awhile now.  In December 2011 with the backdrop of the Federal Reserve’s Operation Twist announcement and despite supposed experts talking up the end of bonds, the ETF Profit Strategy Newsletter was bullish and stated:

“Perhaps no investment category more than U.S. Treasuries – particularly long-term Treasuries – has confounded Wall Street’s leading voices over the past year. PIMCO’s Bill Gross (NYSEARCA:BOND) , one of the brightest minds in the fixed income space, was dead wrong about Treasury prices collapsing.  And so were all of the other talking heads who predicted the mid-year deficit ceiling crisis would spell doom. Long-term Treasuries (CHICAGOOPTIONS:^TYX) still have more upside.” 

In an article published on February 23 entitled “Look who hates US Treasuries” we again reiterated our position that bonds were the place to be as sentiment continued in the dumps (and giving a contrarian buy signal). 

More recently in our 6/21 Weekly ETF pick, we advised subscribers to buy the TLT around $126 as we stated, “At this point, Treasuries are not an income trade, but rather, a pure momentum play. And the short-term profit opportunity is in long-term Treasury ETFs like the iShares Barclays 20+ Yr Treasury ETF (NYSEARCA:TLT) .  (In our June 2012 newsletter, we also highlighted mortgage backed securities (NYSEARCA:MBB) as another area that could head higher if the Fed starts buying.)

Let’s Take a Look at the Tape

On 7/1 with price at $125.20 the ETF Profit Strategy Update posted the below chart with the commentary,  “TLT has been going gangbusters for years now, and there is no reason to expect any change at this point.  Continue to disregard the media and talking heads that say bonds are overvalued and inflation is around the corner.  Until we see it in price, it is not happening.”

 

Protecting Profits

Three weeks later on 7/23 after a $5.50 gain, the TLT broke above its all time high at $130 and we advised our subscribers, “Price action today gives us a great opportunity to move our stops just below $130 for aggressive traders.  After a breakout which likely will be confirmed this week, any fall back below $130 could set up a topping pattern.”  The below chart accompanied that update:

 

On 7/27 when prices opened at $129.89, profits were locked in.  Since then the TLT price has fallen rather sharply finding support at our intermediate trendline support of $121 that had been in place for months (in blue in the above chart). This quick trade generated over $4 of TLT price gain in under a month and got aggressive traders out near the top protecting their profits over the last month.

Long Term Treasury Outlook

Today the TLT price trades around $124.41 and sits right on a very important support and resistance area.  A breakdown of this support and a likely intermediate correction in bonds is upon us. 

If that occurs aggressive traders may want to look into the ProShares UltraShort 20+ Year Treasury (NYSEARCA: TBT) to take advantage of the levered short side, or more conservative investors may want to shorten their bond duration by switching into the iShares Barclays 7-10 Year Treasury (NYSEARCA:IEF).

For now investors in bonds should have no immediate worries about the potential trend change.  Price is still in a confirmed uptrend and has yet to break down from key supports, but the risks are now higher that bonds may be forming a major topping pattern.

The ETF Profit Strategy Newsletter highlights important support, resistance, and target levels with actionable ETF strategies that help investors stay ahead of trend changes.  Updates are provided a few times each week.

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