In August 2021, Bill Ackman shorted U.S. Treasury Bonds… hard.
This week, he closed that position.
While we don’t know exactly how much he made, it’s safe to say it netted him hundreds of millions, if not billions, of dollars.
It’s VERY rare for headlines like these to move Treasury markets.
Yet, the oversold asset class rebounded hard on the news, pulling up equities.
It begs the question that is on the minds of everyone from Wall Street to K Street — is the bond selloff over?
We’ve explained in great depth why we expect the Fed to keep interest rates elevated for years.
However, Ackman is a smart man. And he doesn’t like to diversify.
After reading through his comments, we believe there’s a counter-trend trade here.
And if you stick with us, we’ll explain what it is and how to play it.
Bond Trends Over Time
This is a chart of the 10-year U.S. Treasury yield going back to 1960.
Our current 5% interest rates are the highest since before the Great Recession.
Yet, they’re also above the interest rates from 2000 to 2007.
Only when we look back to the 1990s does the 10-year yield edge up towards 7.5%.
The rise in the 10-year yield is also the sharpest it’s been since the late ‘70s.
This matches the 30-year yield, which is where Ackman had been short.
On a purely technical basis, the movement in the bond market has been so quick and severe that a snapback is quite likely.
The Warning Signs
While the economy is chugging along, Ackman believes there is a substantial risk of a recession.
If you look at the chart of the 10-year yield above, you’ll notice recessions often follow those steep rises in yields. This happened in 1970 and 1980.
During recessions, bond prices often rise as investors flee to these “safe-haven” assets.
Although we’ve become accustomed to bonds and equities moving in the same direction, historically, that isn’t the case.
Normally, money flows into bonds for safety and into equity for risk.
As bond prices increase, yields drop. That makes the cost of borrowing cheaper, which incentivizes investment. Eventually, that translates into higher equity multiples.
Rather than looking at it as a see-saw, think of the entire system as a loop that takes about six months to cycle through, with bonds leading stocks.
Now, it might seem silly to think the economy could fall apart from here, given:
- Retail sales are strong.
- Hiring remains robust.
- Manufacturing output continues to climb.
However, there are several bigger concerns just over the horizon:
- A massive amount of commercial real estate loans will come due in the next three months.
- Inflation is almost entirely being driven by housing and energy at this point.
- We face war in Ukraine and Israel.
- Sales of big-ticket items like cars cooled rapidly in the last few months.
- Credit conditions tightened from the April banking crisis.
- There’s a real possibility of a government shutdown.
Going back to our feedback loop analogy, the estimated length for a rate hike to hit the economy in full is roughly 18 months.
The first interest rate increases started in March 2022, roughly 20 months ago.
We’re just now getting into the heart of its impact.
The Fed Atlanta now forecasts Q3 gross domestic product (GDP) to hit 5.4%.
However, it still expects the GDP for the full year 2023 to land at 2.1%, implying Q4 will fall off a cliff.
Many CEOs are saying the same thing in their earnings calls.
There’s talk of modest revenue growth for the holiday season. Yet, retailers sitting on bloated inventories, including Apple, plan to work through the backlog before bringing in new products.
Creating a Tradeable Opportunity
All in all, there’s good reason to believe the Fed will hold interest rates steady while nodding at the increased risk from global conflicts and a government shutdown at its next meeting.
Given how oversold bonds are, that is probably enough to get treasury prices to snap back.
We see the 20+ Year Treasury Exchange-Traded Fund (ETF) (TLT) as a prime beneficiary of this movement.
The ETF, which tracks long-dated Treasuries, is trading at the lowest levels in the ETF’s history.
With $38 billion under management, its size is enough to spark short-term volatility in the bond market.
That’s why we like owning TLT here.
The ETF pays a 5% dividend and trades with volatility it hasn’t seen since the depths of the COVID-19 crisis.
A great way to play this is by using options, either by selling 30-90-day puts to capture the elevated premium, or buying longer-dated call options in lieu of stock.
The lowest the ETF has ever traded is $80.51, which you can use as a stop loss to define the risk of the trade.
Ideally, we’d like to see the TLT bounce back towards and through $90.
This is precisely the type of analysis you should be doing for every trade… and for every investment you make.
You want to work through a rigid, analytical process that clearly defines what the trade is, why you’re in it and what you expect.
For our money, there’s nobody better at this than Dr. Mark Skousen.
Mark’s unique skill set takes the macroeconomic environment and distills it down into actionable trade ideas.
That means every play isn’t just about the stock or its chart. It’s built on a broader theme that gives it an extra kick, exactly like we showed you above.
Believe us, nothing is more satisfying than turning a robust analysis into a winning trade.
Check out Mark’s latest macroeconomic assessment and the stocks he believes will benefit the most.
