From the desk of Steven Strazza @Sstrazza and Ian Culley @Ianculley
Treasury Bonds have collapsed in recent months as interest rates have rallied to their highest levels in years.
And it’s not just treasuries, the trend is lower for corporate bonds as well.
While fixed income markets have experienced steady selling pressure since 2021, downside volatility has accelerated in recent months. Following the worst Q1 returns in decades, bonds have continued to plunge to kick off the 2nd quarter.
The best way for us to take advantage of this is to keep finding clean setups to short.
Today, we will outline a couple of shorts in high-yield debt and discuss what a sustained downtrend for these bonds could mean for the broader market.
First up is the High-Yield Corporate Bond ETF $HYG:
HYG completed a topping pattern earlier this year and has been following through lower ever since. Price is currently challenging a critical level at the 2018 lows ~80.
We want to sell a break below that level with a downside target near the COVID lows ~67.50.
$ANGL is another high-yield bond ETF that is breaking down:
The Fallen Angel ETF is comprised of the newest high-yield bonds to hit the market. This is the fresh junk if you will.
As a key level of former resistance turned support, we have our eyes on the 2020 highs ~30.50. Over the trailing month, ANGL broke that critical level, pulled back to retest those former highs, and then continued lower.
We want to be short ANGL below 30.50 with a downside target near the 2018 lows ~26.25.
So great, we’re shorting bonds. What’s new?
Well, as we pointed out in mid-February, a sell-off in high-yield bonds puts upside pressure on credit spreads and speaks to a lack of risk appetite among bond market participants. Historically, that does not bode well for equities.
If these bonds continue to catch lower we need to look out for widening credit spreads and selling pressure in stocks.
On the other hand, if these junk bond ETFs carve out a tradeable low at these logical levels we’re likely to see a rally from other risk assets as well.
For now, the path of least resistance is lower for both HYG and ANGL and our risk is clearly defined for a shot on the short side. We want to use these funds as vehicles to express our bearish thesis on bonds.
At the same time, this weakness in junk bonds is something we’re monitoring closely right now due to its implications for risk appetite.
We’ll keep you updated!
Countdown to FOMC
Following the Federal Reserve's recent rate hike, the market is pricing in a 50-basis-point hike at the May meeting.
Here are the target rate probabilities based on fed funds futures:
