Monday, May 9, 2011

Treasury Tuesdays

Last week, I wrote the following about the bond market:

I'm treating the current action as a consolidation range and would wait to make a trading move until after prices convincingly choose a direction. For the IEFs, that would be a move above 94-94.5 or a move below 92. For the TLTs, it would be a move above 93.5 or a move below 90.

The long end of the curve is still contained by the 200 day EMA -- a technically important development. In addition, the Treasury market is still in a trading range. Until we see a convincing move in either direction, I would not be trading this market.
Let's take a look at the charts to better illustrate the issue:

The vast majority of the IEF's price action since the beginning of the year has occurred between the 92 and 94 price level. However, now prices have broken higher with the shorter EMAs following suit -- all are rising and the shorter are above the longer. Also note the shorter EMAs have crossed above the longer EMAs.

Like the IEF's, the TLTs have been trading in a fairly consolidated range for most of the year. However, like the IEFs, the TLTs have also broken higher with a resulting move from the EMAs. The shorter EMAs are all moving higher as well. In short, this chart is breaking higher as well.

That leaves the question: will the rally last? The current Treasury rally is the result of weak economic numbers. These indicate two things: 1.) the Fed won't be raising interest rates soon, and 2.) price pressures aren't going to hit bond yields. However, I think reason one is really the primary reason for this latest rally.

As I mentioned above, I would be long in this market, at the levels stated above. However, I would have very tight stops. Remember, on the flip side of bond prices are bond yields. At some point, yields get to low to justify the risk taken. Currently, the 10-year is yielding 3.17%. Eyeballing the situation, I would use 2.75% as the abject lowest the 10-year should yield in the current environment. In addition, I wouldn't be looking for massive gains from this trade, instead, thinking that a few points would probably be the pretty good.