One of the biggest beneficiaries of the recent market turmoil has been bond prices. There’s nothing like a little stock volatility to drive money into the welcoming arms of U.S. treasuries.
The kingpin of Wall Street bond ETFs, iShares Barclays 20+ Year Treasury Bond ETF (TLT), is up a respectable 7.5% over the past month, scoring a full-fledged trend reversal. Recall that bond prices had been suffering amid higher interest rate fears throughout the year.
While the budding rally in TLT is certainly a welcome respite to bond holders tiring of falling bond prices, it does seem to be getting a bit long in the tooth. The TLT ETF is up about five weeks straight running into stiff resistance at the oft-watched 200-day moving average.
And it’s overbought by just about any measure. I’ve included the stochastic indicator in the accompanying chart to illustrate. You’ll notice it’s well above the 80 level, signaling the overbought status of TLT.
What’s more, bond bears scored a pivotal victory during yesterday’s whipsaw session by taking TLT lower on the day. It ended with an ugly bearish engulfing candle suggesting a pullback, or at least some consolidation, may be in the cards.
Play the odds with TLT call spreads
If you’re willing to bet that TLT cools off during the coming weeks, sell the Sep $129/$132 bear call for 31 cents credit. A short out-of-the-money call vertical spread is a perfect high-probability play for exploiting overbought setups. It provides a wide range of profit, allowing us to win even if the bond rally carries a bit further before gravity steps in.
The max reward is limited to the initial 31 cents and will be captured if TLT remains below $129 by Sep expiration.
The max risk is limited to the distance between strikes minus the net credit, or $2.69, and will be lost if TLT powers above $133 by expiration.
At the time of this writing Tyler Craig owned short option positions on TLT.
