Congrats with the TLT short call. It's working quite well. I was wondering if you also trade in and out of TLT at certain times? The 10 year hitting resistance at 5 pct, and Bill Ackman screaming that the bottom is in for bonds right at that point, might have been a great moment to pare back exposure?
Trading can be fun - but if you think you have a long term call, then it rarely pays to trade in and out. In my experience by the time you get back in, you end up with a worse entry price.
One exception to this rule is when events cause margin call and forced selling. In the case of bonds, the Truss budget destroyed long dated gilts, and would have been a good time to cover.
Yields had nearly gone parabolic and just needed a break. Long bonds are still well off their highs, despite this recent rally.
Inflation means yields will have to stay higher for longer - something Jerome Powell has said repeatedly. Bond bulls need to understand the implications of this structural shift (up) in inflation and rates.
In fact, I bet we'll see a lot of the usual rules stop applying... yield curve has been inverted for how long now??
Hi Russell, thanks for the update. Your point that credit growth doesn't matter that much when wages are rising makes 100% sense to me, although I think composition effects need to be taken into account, but then what do you make of Fed's data on real disposable personal income (I'm referencing this series: https://fred.stlouisfed.org/series/DSPIC96), which after about a year of very healthy growth from June 22 to June 23 seems to be plateauing, if not falling again? Do you have other data sources painting a different picture?
I'm personally struggling to get a clear picture about whether real incomes are growing right now for the majority of the population or not - anecdotal data is just that and aggregate/survey data seems a bit mixed and confusing to me on that front. It certainly seems that the resilient US consumption in Q3 has been driven more by drawing from personal savings than by income growth.
One of the big issues with data is that so much wealth and consumption is with the super wealthy. And because of the concentration of wealth, weakness in capital markets can turn up in aggregate numbers - even if say 80% of Americans are doing fine.
One of the other feature of a pro-capital shift should be that capital gets scarce, and the current nature of the US economy implies at least some weakness. That why my view is that equities just range trade.
I think you are 100% on this Russell. last week's flipped the narrative as the combination of the QRA, Powell and the weak NFP has everyone thinking it's over. But I am with you, and suspect that come the first of the year, things will look quite different and inflation will not be going away anytime soon. after all, the UAW and pilots just saw huge pay rises. that will not push inflation back toward the Fed's target. I remain in the medium term camp of 10yr yields to 5.50% to 6.0% before this cycle ends.
how did you calculate tlt's dividend yield? its yield to maturity is 4.88% as of november 3, 2023. it seems that you are looking at 30 day sec yield for tlt which is misleading.
Yield to maturity is incorrect for TLT as they buy the treasury when its 30 years from maturity and sell when its 20 years from maturity. So if interest rates rise for 10 year, you will not get any pull to par, and just lock in capital losses. The dividend yield is the coupon payments passed on to investors, and I take it straight from Bloomberg. This is why TLT is a better short than a treasury
but if interest rises for 10 years, the starting yield for the treasuries in tlt's holdings after those 10 years would also be higher, so you have better yield going forward after that. If you buy treasuries instead in the same scenario, ie. interest rate going up for 10 years, the pull to par effect will reduce/eliminate the nominal loss, but you have already lost out by taking an interest rate that is below market rate or indeed inflation, which is real risk of investing in bonds regardless of how you hold them. From an investment point of view, I do not see any difference between holding tlt or treasuries directly on a real return basis.
At the moment, the TLT portfolio has a very high duration. It top 4 positions making up 25% of the portfolio all have coupons less than 2.
The biggest position at 8.8% of the portfolio is Feb 51 Treasury. It yields 4.8%, has a price of 55.5. If the market yield goes to 7 lets say in the next year, then it will trade closer to 40, a 30% loss of capital, of which you will only get 2 bucks back in coupons to reinvest. Of course, if you hold to maturity, you get the full 100 back, but TLT will start selling this bond as we get closer to 2031, when it will be only a 20 year bond. The problem with TLT is that if rates stay high, it will be booking capital losses. The capital available to buy new higher yielding bonds will have been permanently destroyed.
Also, given changes in treasury market construction, it is possible for liquidity to disappear (see gilts last year). I expect TLT to trade at a large discount at such times as markets use it for liquidity. Owning treasuries directly is far superior to owning TLT
The duration risk of individual treasury decreases as they mature, but the duration risk of tlt stays the same. So by design tlt will be more vulnerable to interest rate increases, so I understand why you see tlt as a better short bet on treasuries if you’re expecting higher rates in the future. But for a long only portfolio looking for exposure to diversified risk factors, holding tlt makes more sense than individual treasuries as it gives you a stable exposure to duration/interest rate risk as part of a diversified portfolio.
Last para nails it!
Congrats with the TLT short call. It's working quite well. I was wondering if you also trade in and out of TLT at certain times? The 10 year hitting resistance at 5 pct, and Bill Ackman screaming that the bottom is in for bonds right at that point, might have been a great moment to pare back exposure?
Trading can be fun - but if you think you have a long term call, then it rarely pays to trade in and out. In my experience by the time you get back in, you end up with a worse entry price.
One exception to this rule is when events cause margin call and forced selling. In the case of bonds, the Truss budget destroyed long dated gilts, and would have been a good time to cover.
I agree w/ short TLT.
Yields had nearly gone parabolic and just needed a break. Long bonds are still well off their highs, despite this recent rally.
Inflation means yields will have to stay higher for longer - something Jerome Powell has said repeatedly. Bond bulls need to understand the implications of this structural shift (up) in inflation and rates.
In fact, I bet we'll see a lot of the usual rules stop applying... yield curve has been inverted for how long now??
Yield curve inversion in a pro-capital world was a signal to buy. Yield curve inversion in a pro-labour world is a signal to sell
Hi Russell, thanks for the update. Your point that credit growth doesn't matter that much when wages are rising makes 100% sense to me, although I think composition effects need to be taken into account, but then what do you make of Fed's data on real disposable personal income (I'm referencing this series: https://fred.stlouisfed.org/series/DSPIC96), which after about a year of very healthy growth from June 22 to June 23 seems to be plateauing, if not falling again? Do you have other data sources painting a different picture?
I'm personally struggling to get a clear picture about whether real incomes are growing right now for the majority of the population or not - anecdotal data is just that and aggregate/survey data seems a bit mixed and confusing to me on that front. It certainly seems that the resilient US consumption in Q3 has been driven more by drawing from personal savings than by income growth.
One of the big issues with data is that so much wealth and consumption is with the super wealthy. And because of the concentration of wealth, weakness in capital markets can turn up in aggregate numbers - even if say 80% of Americans are doing fine.
One of the other feature of a pro-capital shift should be that capital gets scarce, and the current nature of the US economy implies at least some weakness. That why my view is that equities just range trade.
I think you are 100% on this Russell. last week's flipped the narrative as the combination of the QRA, Powell and the weak NFP has everyone thinking it's over. But I am with you, and suspect that come the first of the year, things will look quite different and inflation will not be going away anytime soon. after all, the UAW and pilots just saw huge pay rises. that will not push inflation back toward the Fed's target. I remain in the medium term camp of 10yr yields to 5.50% to 6.0% before this cycle ends.
Commodity prices seem to have fallen particularly in the last month. Any thoughts on the implications for inflation dynamics?
I try not to look at spot too much - and long dated if possible. Where you do get long dated pricing (ng and oil) not much has changed...
how did you calculate tlt's dividend yield? its yield to maturity is 4.88% as of november 3, 2023. it seems that you are looking at 30 day sec yield for tlt which is misleading.
Yield to maturity is incorrect for TLT as they buy the treasury when its 30 years from maturity and sell when its 20 years from maturity. So if interest rates rise for 10 year, you will not get any pull to par, and just lock in capital losses. The dividend yield is the coupon payments passed on to investors, and I take it straight from Bloomberg. This is why TLT is a better short than a treasury
but if interest rises for 10 years, the starting yield for the treasuries in tlt's holdings after those 10 years would also be higher, so you have better yield going forward after that. If you buy treasuries instead in the same scenario, ie. interest rate going up for 10 years, the pull to par effect will reduce/eliminate the nominal loss, but you have already lost out by taking an interest rate that is below market rate or indeed inflation, which is real risk of investing in bonds regardless of how you hold them. From an investment point of view, I do not see any difference between holding tlt or treasuries directly on a real return basis.
At the moment, the TLT portfolio has a very high duration. It top 4 positions making up 25% of the portfolio all have coupons less than 2.
The biggest position at 8.8% of the portfolio is Feb 51 Treasury. It yields 4.8%, has a price of 55.5. If the market yield goes to 7 lets say in the next year, then it will trade closer to 40, a 30% loss of capital, of which you will only get 2 bucks back in coupons to reinvest. Of course, if you hold to maturity, you get the full 100 back, but TLT will start selling this bond as we get closer to 2031, when it will be only a 20 year bond. The problem with TLT is that if rates stay high, it will be booking capital losses. The capital available to buy new higher yielding bonds will have been permanently destroyed.
Also, given changes in treasury market construction, it is possible for liquidity to disappear (see gilts last year). I expect TLT to trade at a large discount at such times as markets use it for liquidity. Owning treasuries directly is far superior to owning TLT
The duration risk of individual treasury decreases as they mature, but the duration risk of tlt stays the same. So by design tlt will be more vulnerable to interest rate increases, so I understand why you see tlt as a better short bet on treasuries if you’re expecting higher rates in the future. But for a long only portfolio looking for exposure to diversified risk factors, holding tlt makes more sense than individual treasuries as it gives you a stable exposure to duration/interest rate risk as part of a diversified portfolio.
Don't disagree with any of that