Long-Term Treasuries: Time To Put The TLT Trade Back On

| About: iShares 20+ (TLT)

U.S. Treasuries sold off with the recent stock market rally as would be expected. But if you were bullish on Treasuries coming into the past week and you maintain the opinion that all of the world’s problems were not suddenly resolved in the time since Tuesday afternoon at 3:20PM, then current opportunities in the Treasury market may have particular appeal.

U.S. Treasuries have had a tremendous run so far in 2011. For example, the long-term U.S. Treasury market as measured by the iShares Barclays 20+ Year Treasury Bond ETF (NYSEARCA:TLT) is up +37% for the year to date through Friday. But while a good deal of the upside has been realized in this area of the market, the potential for further upside exists. And while there is little appeal to loaning the U.S. government money for 30 years at 3% interest, the opportunity to purchase securities that represent this loan commitment for a short-term trade offer attractive returns potential.

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From a technical perspective, the TLT continues to behave very well. It continues to receive support from its 20-day moving average (green line on chart), which is a level that has been successfully tested three previous times since the beginning of August. The TLT tested this support once again on Friday and responded by bouncing higher and ending the day just above this level. This coupled with the fact that the TLT’s Relative Strength Index is currently at the 55 level that marked the beginning of previous rallies bode well for another potential move higher in the coming days.

Such a rally in TLT would be consistent with the aligning of the yield curve versus past levels. While the remainder of the yield curve remains well entrenched below the previous lows from December 2008, the 30-year Treasury yield at 3.02% continues to hover well above its previous low of 2.52%.

Given the strong investor demand for high quality yield coupled with the Fed’s now explicit program to lower Treasury yields across the curve through Operation Twist, long-term Treasury yields still have the strong potential to continue moving lower to levels consistent with the rest of the yield curve.

This implies still strong capital gains potential for long-term Treasuries including the TLT. Although the yield movements appear incremental at this stage, the associated price change of the underlying bonds becomes increasingly meaningful the lower the yield falls. For example, suppose a $1,000.00 30-year Treasury bond was issued today at Friday’s yield of 3.02%. This implies $30.20 in annual coupon payments from the bond. And suppose yields on long-term Treasuries then went on to fall to December 18, 2008 levels at 2.52%. This would imply a +20% increase in the price of this 30-year Treasury, as the bond price would have to rise to $1,198.41 in order for this $30.20 coupon payment to equate to a 2.52% yield on the bond (30.20/1,198.41 = 2.52%). This translates to a potential +20% capital gain from current levels if long-term Treasury yields moved back into alignment with the rest of the yield curve.

The fact that the U.S. Treasury market is likely to continue receiving safe haven demand against a weakening U.S. economy and the European sovereign debt crisis provides further support to the potential upside in this area of the market going forward.

Disclosure: I am long TLT.

This post is for information purposes only. There are risks involved with investing including loss of principal. Gerring Wealth Management (GWM) makes no explicit or implicit guarantee with respect to performance or the outcome of any investment or projections made by GWM. There is no guarantee that the goals of the strategies discussed by GWM will be met.