Since peaking in late 2008, bond futures have fallen sharply, as investors in U.S. debt are starting to have serious concerns about the massive deficit spending the U.S. government is undertaking to help jump-start the economy. This has led to heightened inflation concerns and has caused traders to flee the U.S. Dollar for "safer havens" in the Australian and Canadian Dollars -- and even the Euro. The weak Dollar has caused commodity prices to rise, especially gold, and more recently crude oil. Bond investors hate inflation, as the fixed returns they receive from holding Government debt is worth less due to rising inflation. This concern has also been voiced by foreign holders of U.S. debt, most recently by the South Korean National Pension Service, which announced that it will reduce its holdings in U.S. Government Bonds, switching to a more diversified portfolio of foreign government debt. Back in March, Chinese Premier Wen Jiabao said he was looking to the U.S. Government for assurances that its nearly $768 billion investment would be protected. If this were not enough to shake investors out of the debt market, the sharp rebound in equities combined with the improving consumer confidence reading of late would certainly give credence for switching investment funds back into equities and out of treasuries, where returns since the start of the year have been less than stellar. Not even direct Fed purchase of treasuries has stopped yields from rising. Last week's Commitment of Traders report shows both large and small speculative accounts are holding net-short positions in Bond futures, but the large non-commercials have begun to cut back on the size of their positions. However, should Bond prices continue to fall, we would not be surprised to see the short positions increase as trend following traders jump back on the bearish Bond bandwagon in earnest.
Daily charts seem to suggest that Bond futures may be a bit oversold at the current time, so some long- term Bond bears may potentially wish to wait for a bit of a correction before looking to the futures options market for possible trading opportunities. Those looking for a big move to the downside may wish to investigate put backed spreads in Bond options. An example of such a trade would be selling a September Bond 116 put and buying 2 September 114 puts. The short option helps to offset the cost of the two long options, but still allows for large potential gains if Bond prices fall sharply below the 114 strike of the long options. The maximum loss on this trade would occur if the September Bonds closed at 114-00 (the long option strike) at option expiration in August, as the long options would be worthless, but the short option would only lose its current time premium.
Today we will look at a new feature on the optionsXpress FleXCharts - Continuation charts for the Treasury Bond futures. This long-term chart captures the front month futures prices going back several years. Today's chart shows the lead month Bond futures going back three years. Here we notice prices moving out of a just over a year-long consolidation pattern in mid-November 2008. From there, Bonds began their historic rally, sending prices above 140-00 for the first time. From that peak, prices have fallen over 20 points and have now moved back into the middle of the earlier mentioned trading range. Notice that prices accelerated their down-side decline once the 200-period moving average was penetrated in late April of this year. The 14-period RSI has also reached oversold territory with a current reading of 28.41. Longer-term charts can give a trader a larger perspective of the overall market that can be missed in shorter-term charts. Even short-term traders should consider looking at these charts to see where current prices fall in the larger-term trend of a particular market. Support for September Bonds is seen at the recent lows of 114-15, with resistance found at the May 15th highs of 122-11.
Mike Zarembski, Senior Commodity Analyst