Posted 1/27/15 12:49pm
Treasury bonds have gotten off to an amazing start for 2015; the question is whether or not this performance will continue to be so strong. Last week, the ECB launched a massive bond-buying (QE) program, in which they detailed a plan as to which they will buy $60 billion per month of bonds through the end of September 2016. This beat market expectations on both the dollar figures ($60 billion vs. $50 billion expectation) and the duration of the program (1.5 years vs. 1 year expectation). This is a big last-ditch effort to save the euro zone from its current deflationary state. The ECB is doing everything in its power to raise inflation. There are many ways to trade around this event. One could short the Euro now, which I think will work in the medium to long-term, but may not be successful in the short-term. The only reason why I am not currently short the Euro is because I am too late to the trade. The time to short the Euro was in anticipation of the ECB bond-buying event, not afterwards. Therefore, I would suggest holding off on any short until there is a bounce. The trade I like is to continue to buy U.S Treasuries.
With European treasury yields continuing to fall, as U.S interest rates remain much more attractive then European yields. Therefore, people will continue to buy bonds, which will in turn result in downward pressure for yields. The trade that I want to put on is a bullish bet on TLT. This is a short-term trade (3 weeks) as I think that we will see an immediate follow through that will result in TLT rising.
I have constructed an option trade to play for upside in TLT:
Buy a February 20th 135/140/145 TLT Call Butterfly for $0.90-1.05 (depending on where TLT opens Monday). I like the risk/reward on this trade, as you have the potential to make up to $4 while only risking one. TLT currently trades at $135. To breakeven you would need TLT to be above 136 or below 144. Do not forget that when trading butterflies you need the stock to be in a particular range. If you do not feel comfortable doing that, you can buy the 135/140 call spread for $1.90. The cost is 2x as much as the butterfly, but unlike the butterfly the stock can rally past 145 and still be profitable.