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How to Beat the Bond King At His Own Game

By Jeff Clark
Thursday, April 21, 2011

The jig is up.
On Monday, Standard and Poor's rating agency declared the emperor has no clothes. The agency put the United States on "negative" outlook.
No, that's not terrible. It's not as though S&P downgraded the U.S. government debt or questioned its ability to repay it. So, maybe it wasn't so much a declaration that the emperor isn't wearing any clothes... It's a suggestion that the clothes he's wearing aren't ironed so well.
But it's a start.
Of course, we all know the emperor really is naked. He's been running around flashing old women and young men for years. And now, finally, a somewhat reputable ratings agency has called him on it... sort of.
How did investors react? Did they shun the Treasury bond market? Did they sell their holdings, thereby pushing bond prices lower and forcing yields higher?
In a word... no.
Yields are lower today than they were before S&P's announcement. In fact, the yield on the 30-year Treasury bond is approaching its lowest level of the year. Take a look...
For most of 2011, long-term bond yields have been in a trading range between 4.375% (43.75 on the chart) and 4.65% (46.50 on the chart). Yields have remained stubbornly low despite a declining number of foreign buyers, despite increased concern over the United States government's ability to repay, and despite an ever-increasing supply of new bonds.
The supply and demand conditions in the U.S. bond market scream for higher interest rates. Countering those screams, however, are the Fed's multiple quantitative easing (QE) programs – which have managed to artificially prop up the bond market for the time being. Indeed, it is likely the Fed who stepped up to buy bonds on Monday and prevent a selloff based on S&P's announcement.
But the Fed is fighting logic here. When the latest QE program ends in June, logic is likely to take its toll on bond prices.
Interest rates are headed higher. It's so inevitable, Bill Gross, the manager of the world's largest bond fund, recently announced he has liquidated all of his funds' U.S. Treasury holdings and has, in fact, taken a net short position in Treasury bonds. He made the bulk of those trades in early to mid-February when interest rates were slightly higher and bond prices were slightly lower.
Traders now have an opportunity to short the Treasury bond market near the highest price (lowest yield) of the year. Interest rates are approaching support. The risk of shorting Treasury bonds here is low. And you'll be getting into the trade at an even better price than Bill Gross.
No trade is ever a guaranteed winner. But if you can get into a position alongside the biggest bond trader in the world and get in at an even better price the odds of success are good.
Best regards and good trading,
Jeff Clark

Further Reading:

Jeff has been eyeing the 30-year Treasury bond yields for a few weeks now. "We don't have the perfect setup for shorting the bond market just yet," Jeff wrote, "but we're close." Get the rest of the story here: It's About Time to Short the Bond Market Again.
Bill Gross has quite the reputation among investors. Steve Sjuggerud calls him "the Bond King." So in September, when Gross made a multibillion-dollar bet, we paid close attention. Read more here: Bill Gross' $8.1 Billion Bet.

In The Daily Crux
Market Notes
U.S. dollar index sags to lowest level since December 2009... gold and silver touch fresh highs.
Goldcorp and Royal Gold soar to new all-time highs.
Intel surges more than 6% after earnings report... biggest move in over a year.
China Unicom rockets to new two-year high... up 40% in last four months.
Market Watch
Symbol Price
S&P 500 1330.36 +1.4% +10.2%
Oil (USO) 44.22 +3.0% +9.7%
Gold (GLD) 146.50 +0.4% +31.4%
Silver (SLV) 44.12 +2.6% +152.4%
U.S. Dollar 75.06 -0.6% -7.4%
Euro 1.45 +1.3% +8.1%
Volatility (^VIX) 15.07 -4.8% -4.2%
Gold Stocks (^HUI) 590.01 +0.8% +38.3%
10-Year Yield 3.40 +1.2% -10.8%

World ETFs
Symbol Price
S. Korea (EWY) 67.55 +3.5% +31.0%
S. Africa (EZA) 72.83 +2.5% +23.7%
Taiwan (EWT) 15.38 +3.0% +23.5%
Singapore (EWS) 14.21 +1.4% +19.6%
Canada (EWC) 33.58 +1.4% +18.5%
Lat.America (ILF) 53.80 +1.4% +13.8%
USA (SPY) 133.10 +1.4% +12.3%
Israel (ISL) 17.90 +0.4% +10.4%
India (IFN) 32.11 +1.3% +10.4%
Russia (TRF) 22.99 +2.5% +10.3%
China (FXI) 45.99 +2.6% +9.7%
Japan (EWJ) 10.18 +1.5% -1.8%

Sector ETFs
Symbol Price
Basic Mat (IYM) 81.56 +1.7% +27.8%
Oil Service (OIH) 160.58 +1.7% +25.1%
Real Estate (IYR) 60.20 +1.2% +21.8%
Telecom (IYZ) 23.93 +1.3% +19.8%
Industrials (IYJ) 71.00 +1.6% +18.9%
Software (PSJ) 27.12 +2.2% +18.5%
Semis (PSI) 17.65 +4.3% +18.1%
Big Tech (QQQQ) 57.88 +2.3% +17.2%
Internet (HHH) 74.20 +2.6% +16.7%
Retail (PMR) 21.62 +1.7% +16.1%
Transportation (IYT) 95.21 +0.4% +14.9%
Consumer Svcs (IYC) 72.00 +1.4% +14.5%
Biotech (PBE) 22.45 +2.0% +12.1%
Utilities (XLU) 32.24 +1.3% +11.2%
Water (PHO) 19.84 +1.7% +10.7%
Construction (PKB) 14.01 +1.2% +10.5%
Big Pharma (PPH) 69.04 +0.7% +10.1%
Health Care (IYH) 71.29 +0.9% +9.4%
Media (PBS) 14.91 +1.8% +6.5%
Defense (PPA) 20.10 +1.9% +6.3%
Insurance (PIC) 16.65 +0.9% +5.7%
Financials (IYF) 58.20 +0.4% -1.7%
Alt. Energy (PBW) 10.01 +1.8% -2.9%
Nanotech (PXN) 9.38 +1.6% -11.7%

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