Buying a Bounce in Bonds

From the desk of Ian Culley @IanCulley  

Buying bonds is finally becoming an attractive proposition again.

For months, we’ve noted the lack of confirmation from intermarket ratios such as copper versus gold, regional banks versus REITs, and high-yield bonds versus US Treasuries.

These ratios typically trend in the same direction as interest rates. But this hasn't been the case since last year.

And when we consider that yields are trapped below major resistance zones, we really like the counter-trend opportunity bonds are offering at these levels.

Let’s review a few setups from our Q3 Playbook we like for buying a bounce in bonds.

When it comes to getting long Treasuries, it’s all about the former 2018 lows. It doesn’t matter what contract, ETF, or even duration. It’s the same story no matter where we look.

Remember, 2018 is when risk assets peaked globally during the last cycle. And US treasuries are respecting those key former lows. This makes a great level to trade against and measure risk.

And that’s precisely what we want to do.

Since these trade ideas are all about strong downtrends rebounding off critical levels of former support, we will quickly run through the key levels on our radar.

First, we have 30-year Treasury bond futures:

T-bond futures are bouncing higher after a quick shakeout beneath the 2018 lows. We like it long if and only if it’s above 136’16 with a target near 153’00.

It’s a similar scene in the 10-year Treasury note. After putting in a potential failed breakdown last month, it's on the rebound:

We can trade against the former lows near 117’13. As long as it’s above that level, risk is to the upside back toward 128.

But, hey, we know not everyone trades futures. Don’t worry, we have you covered!

If T-bond futures aren’t in your wheelhouse, the long-term Treasuries ETF $TLT is reclaiming a similar level:

As long as it's above 112 we’re betting on mean reversion back toward 135.

Along the same lines, the 7-10 year treasuries ETF $IEF is back above a critical support level around 99.50.

We’re buyers above this level back toward 110.

It’s that simple.

We want to trade against the former 2018 lows in anticipation of a meaningful bounce in US Treasuries.

But we want to make sure we’re trading the longer end of the curve. Downside pressure on long-duration yields is likely as the Fed continues to raise rates at the shorter end.

And since the intermarket landscape is hinting at lower rates, we think a bounce here is the higher probability outcome.

Stay tuned.

Countdown to FOMC

The market is pricing in a 75-basis-point hike at the July meeting next week.

Here are the target rate probabilities based on fed funds futures:

Click the table to enlarge the view.

This data is from the CME FedWatch Tool as of July 20, 2022.

Thanks for reading. Let us know what you think.

And be sure to download this week’s Bond Report!