Most people seem to feel that Treasury bonds are overbought, but two questions remain: When will a correction occur, and how severe will it be?

If a trader was considering a long put option or an outright short position, this uncertainty might be a deal breaker, according to options trading information.

However, in light of yesterday’s trading volatility, we are setting up a credit spread on the iShares Barclays 20+ Year Treasury Bond Fund (NYSE: TLT) that will profit not based on how far the market may fall, but on whether it stays below a certain benchmark. In a sense, we are trading where we think the market “won’t go.”

Trade

TLT October 106/107 vertical call spread for a credit of 27 cents per share or better.

Sell to open (STO) TLT Oct 106 Call
Buy to open (BTO) TLT Oct 107 Call

Profit

Profit from a decline in TLT below $106.

Max Loss: 73 cents/share
Max Gain: 27 cents/share
Breakeven: $106.27

Position Sizing

With a credit spread we get paid the maximum profit up front. Our maximum loss is the difference between the two strike prices, minus the credit.

Your personal position sizing is dependent on the size of your portfolio and the risk you’re comfortable with. Size your position so that if things don’t work out with the trade it won’t be too disruptive to your total account.  

To learn more about this trade, watch the video here.

Disclaimer: It is important to understand the risks of trading options before you attempt a trade like this. This article is for educational purposes only.

This article is brought to you by LearningMarkets.com.

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