ETFs to Play the Rise in Interest Rates and the Dollar

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 |  Includes: EUO, TBF, TBT, TLT, UUP
by: Jim Farrish

The yield on the thirty-year Treasury bond closed at 4.25% up 11 basis points, reaching the highest level since June. Equally, the bond fell 2.2% in price to compensate for the rise in yield. I wrote in my notes on Monday that yields would set the tone for the market direction along with gold and the dollar this week. Yesterday, all three showed their respective influence on both the equity and bond market.

The chart below of TLT, iShares 20+ Year Treasury Bond ETF, shows the impact of rising yields since hitting a high in August. The chart also outlines the importance of risk management for any position in a portfolio. The stop at $104 saved plenty of downside pain. There is some support at the $96.25 mark and is worth watching to see how this plays out short term. Holding support would be a positive for bond holders. LQD, iShares iBoxx $ Investop Corporate Bond ETF, has been a less volatile play over the last 8-10 weeks. The value has moved only 1.5% and continues to pay a 4.8% dividend. This shows that corporate bonds have less immediate impact from interest rates only. If credit risk rises the fund would show greater erosion than Treasury bonds.

click to enlarge images

The dollar did its part yesterday to hold support relative to the dollar index. We looked at this chart on Monday as well, and discussed the importance of holding 75.60 short term as support. It has done exactly that with an assist from the sovereign debt issues surfacing once again in Europe.

There were two ways to play the potential move higher in the dollar. First is UUP, PowerShares DB US Dollar Index Bullish ETF. Looking at the chart below, you can see the move back to $22.50 where some resistance resides and the next level is $23.30 which is the short term target for the bounce off support. The potential gain of one dollar doesn’t sound like much, but it is still 4.5% and the projected holding period is 4-8 weeks.

The second is EUO, ProShares UltraShort Euro ETF. This is a short against the euro and is leveraged 200%. If the dollar gains strength the euro will fall and thus playing the inverse with this ETF allows you to take advantage of the downside risk in the euro. The time frame is the same, but the upside is greater due to the leverage, which also increases the risk.

The interest rate jump is a warning sign for bond investors to be aware of the risk currently in the bond market. Just as there were opportunities other than being long the dollar on the bounce, the same is true with rising interest rates. TBF, ProShares Short 20+ Year Treasury Bond ETF, allows you to play the downside of the long term Treasury bond. If you want more risk and leverage, there is TBT.

One last thought on the dollar moving lower, watch the price of crude oil. On Monday crude closed above $87.05 and Tuesday night it closed at $86.43. If the dollar does gains strength and holds the bounce off the lows, watch for crude to move back near the $82-83 level short term. Commodities in general would react to a stronger dollar short term creating downside opportunities.

Disclosure: No positions