TLT Options – Bye Bye, Bonds!

by Tyler Craig | November 20, 2013 1:23 pm

After an ever-so-brief rally, it appears bond prices are once again losing their battle with gravity. Concerns over an eventual tapering of the Fed’s bond purchases — along with the ongoing realization that interest rates are headed higher — have returned to haunt the dreams of bond bulls yet again.

TLTchart 300x226 TLT Options   Bye Bye, Bonds!
Click to Enlarge
The popular iShares 20+ Year Treasury Bond Fund’s (TLT[1]) latest attempts at reclaiming lost ground from this summer’s taper tantrum fell woefully short. For all its fury, the two-month rebound in TLT resulted in a mere 30% retracement of the multimonth downtrend from May through August.

With the volatile long-term bond fund now slipping back below its 50-day moving average, it’s a good bet the bear market is back on. The latest downturn in TLT has been sufficient to turn the 20-day moving average lower further confirming the bearish turn of events.

Now might be the time to strike for interested spectators who have been lurking in the shadows, waiting for a low-risk opportunity to exploit the bond plunge. Just because you missed the first phase of bond prices readjusting to higher interest rates doesn’t mean you have to miss the next one.

If you’re looking to participate in the bond bear market for the long haul, consider using long-term TLT options. The bond ETF currently offers LEAPS options expiring in both January 2015 and January 2016, allowing you to acquire up to two years of exposure. While long-term options on some stocks can be quite expensive, such is not the case for these TLT options. Because the bond ETF carries such a low volatility, there isn’t a crazy amount of extrinsic value priced into the Jan 2015 options.

For example, you can purchase the Jan 2015 110 put for $12.40.

With TLT currently trading at $104.50, the 110 strike put is $5.50 in-the-money. The breakdown, then, for the $12.40 premium paid for the put comes out to $5.50 for intrinsic value and $6.90 paid for extrinsic value. When you think about it, paying $6.90 isn’t too shabby for more than one year of time. To offset the time decay, which will incrementally eat away at the value of the LEAPS put, TLT only needs to drop by another $6.90, or 6.6%.

I don’t know about you, but it seems like betting on a 6.6% decline in long-term bond prices is a fairly easy bet, no?

Plus, if you want to chip away at the premium paid for the LEAPS, you can tactically sell short-term put options against in months where you expect TLT to rise slightly or trade sideways. The premium received from selling these puts will help to reduce the overall cost basis of your position.

As of this writing, Tyler Craig did not hold a position in any of the aforementioned securities.

Endnotes:
  1. TLT: http://studio-5.financialcontent.com/investplace/quote?Symbol=TLT

Source URL: http://investorplace.com/2013/11/tlt-options-bond-etf-leaps/
Short URL: http://invstplc.com/1ftQyMM