TBT has been a good call so far. I called it a buy at $39 back on January 3rd, and today it’s trading at $45.48. Not bad if you bought shares of TBT- net gain of around 16.5% cash, 32% on margin, and more than a double on the option I suggested (March $30 calls).

TBT is the inverse of the long bond- and to understand what you’re buying here, you have to understand bond dynamics. Owning this security is a bet interest rates in the US Treasury long term maturities are going to go up.

Buying US Treasuries at their current yield is, in my mind, an irrational fear driven flight to quality. Despite all our problems and talk of a 30′s like “Depression”, the US Treasury is still considered the safest security in the world.

So, in this time of great uncertainty, money is pouring into US Treasuries, and it’s irrational.

Let’s start with Bonds 101. When a bond is issued, it comes with a coupon, or an interest rate. That bond can go up or down in price. The interest payment always remains the same from time of issue. If the bond goes up in price, the interest rate goes down and vice versa.

So, if there’s more demand than supply for bonds, the price goes up, and at the same time the interest rate goes down.

Money has been pouring into US Treasury Bonds- it has been coming out of corporate bonds and stocks. It has forced up the price of bonds to irrational levels in my view. As I write this BLOG, the US Treasury 10 Year is sporting a yield of 2.67%- with inflation coming back you’re probably losing money.
Consider the following facts:

The US Government is going to auction $1/2 Trillion in US Treasuries this quarter alone. That’s massive supply. When there’s excess supply, the price simply has to go down. In bonds, when the price goes down, the yield goes up.

A yield of 2.67% in the 10 year, and today’s 3.5% in the 30 year (long bond) is simply not going to hold up. Those interest rates, coupled with the inflation that is inevitable, is coming.

As interest rates go up in the Long Bond, the price comes down, and the price of TBT goes up. Here’s the chart:

TBT has come down off it’s near $50 high as the fear is running rampant in the markets. Money is coming out of stocks and corporate bonds and pouring into the perceived safe haven of US Treasuries. Prices up, yield down, TBT down.

However, is that money chasing the Bond Bubble safe? Certainly US Treasuries, if held to maturity, are the safest security in the world. But, suppose you buy the Long Bond with a 3.5% yield, and 2 years from now you decide 2.5% is not enough and you want out?

When you consider how much we’re borrowing and the likelihood of the reincarnation of inflation, you have to include interest rates are likely to be higher. At this point, the value of bonds will be lower, and you will have to sell at a loss to redirect those funds.

TBT is going to end up being a very strong long term inverstment. It has pulled back from the $50 high, and today’s $45.50 level represents a confluence of several technical indicators.

This pullback is clearly a buying opportunity.

Comments and questions are welcome.