Quarterly Outlook
Fixed Income Outlook: Bonds Hit Reset. A New Equilibrium Emerges
Althea Spinozzi
Head of Fixed Income Strategy
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What are your options - using TLT as a (inverse) proxy for the 10 year yield
Koen Hoorelbeke
Investment and Options Strategist
Summary: Explore the dynamics of the U.S. Government Bonds 10-YR Yield and its relationship with the TLT ETF. Delve into diverse strategies, ranging from bullish over neutral to bearish stances, suitable for various market outlooks on the 10-year yield.
What are your options - using TLT as a (inverse) proxy for the 10 year yield
Recently, the U.S. Government Bonds 10-YR Yield has captured media attention. Our Senior Fixed Income Strategist, Althea Spinozzi, discusses potential opportunities in her article "Keep calm and consider bonds."
For those interested in tapping into the dynamics of the 10-YR Yield, derivative products like the TLT ETF offer compelling alternatives. Our focus is directed towards trading options on this ETF.
| [Editor's Note:] We'd like to provide a clarification regarding the relationship between TLT and the U.S. Government Bonds 10-YR Yield. While the title/article may suggest that the TLT ETF serves as a direct proxy for the 10-YR Yield, this is not accurate. The TLT ETF specifically tracks the performance of U.S. Treasury bonds with maturities primarily exceeding 20 years. Though it offers insights into the broader bond market and is influenced by changes in long-term interest rates, it is not a direct representation of the 10-year yield itself. |
The U.S. Government Bonds 10-YR Yield
Often referred to as the "10-year yield," this metric is a pivotal benchmark interest rate reflecting the return on the U.S. government's 10-year Treasury notes. It not only serves as an essential barometer for the health of the U.S. economy but also acts as a foundational touchstone for global financial markets. Its fluctuations have far-reaching implications, influencing diverse asset classes from mortgage rates to equity valuations.
TLT - iShares 20+ Year Treasury Bond ETF
The TLT ETF offers insights into the performance of U.S. Treasury bonds, especially those with maturities exceeding 20 years. Its trajectory is closely tied to bond prices. As bond prices ascend, associated yields, such as the 10-year yield, descend, and the converse holds true. This seesaw effect between bond prices and yields forms the bedrock of the fixed income markets.
The inverse relationship of TLT and the 10-year yield
A surge in the 10-year yield, indicative of plummeting bond prices, usually signals a downturn in TLT, given its alignment with long-term bond price movements. On the flip side, a dip in the 10-year yield, suggesting climbing bond prices, often aligns with an upswing in TLT. This interplay between TLT and the 10-year yield echoes the overarching dynamics of bond pricing, where price and yield are intrinsically counterbalanced.
Bulls, bears and everything in between
The last few weeks the IV rank of the TLT-etf is rising, which makes it an interesting opportunity to sell premium on them. The higher the IV-rank, the more premium that is being payed for options and the more likely there is room in the future that options-prices might go lower (and since we're selling options, we want those prices to go lower, once we sold them).
1) Bullish on the 10yr yield - bearish on TLT - bearish call credit spread
In situations like this, we have to be very clear in our language, as being bullish on the 10yr yield, means being bearish on TLT, and the other way around.
This strategy involves selling a call option at a certain strike price and buying another call option at a higher strike price. Both options have the same expiration date. This strategy is used when the trader expects the underlying stock to fall moderately within a certain range (staying below the lower strike)
- Buy to Open TLT 15-Sep-23 98 Call
- Sell to Open TLT 15-Sep-23 93 Call
This is a bearish credit call spread on TLT with an expiration date of September 15th, 2023. Here's a breakdown of the trade:
1. Strategy: A Bearish Credit Call Spread is a bearish strategy that involves buying a call option and selling another call option with a lower strike price on the same underlying asset and with the same expiration date. This strategy is used when the trader expects a moderate decline in the price of the underlying asset.
2. Trade setup: In this case, the trader is buying to open a call option on TLT with a strike price of $98 and selling to open a call option with a strike price of $93. Both options expire on September 15th, 2023.
3. Premium and risk: The trader is receiving a net premium of $1.78 per share, for a credit of $178 (since each contract represents 100 shares). This is also the maximum profit of the trade. The maximum risk is $322, which is the difference between the strike prices ($5) minus the net premium received ($1.78), multiplied by 100.
4. Breakeven point: The breakeven point at expiration is $94.78, which is the lower strike price plus the net premium received.
5. Implied volatility (IV) rank: The IV Rank is 30.42%, which is above 20% which we use as an indicator on whether to sell or buy premium.
6. Days to expiration (DTE): There are 28 days left until the options expire.
2) Neutral on the 10yr yield - neutral on TLT - iron condor
If you think that TLT will stay in a range the coming month, consider an iron condor. This strategy involves selling a call spread and a put spread on the same stock/etf with the same expiration date. The goal is for the etf to stay between the strike prices of the sold options. This strategy is used when the trader expects the underlying stock to trade within a certain range until expiration.
Here's a possible setup:
- Buy to Open TLT 15-Sep-2023 107 Call
- Sell to Open TLT 15-Sep-2023 97 Call
- Sell to Open TLT 15-Sep-2023 90 Put
- Buy to Open TLT15-Sep-2023 80 Put
Reason | High implied volatility (IV) in anticipation of Jackson Hole meeting event next week |
Expectation | Limited movement in TLT |
BEPs on expiry | Profit between $88.83 and $98.17 |
Max risk | If you get a premium of $1.17 the max risk/loss would be $10 - $1.17 = $8.83 per share. 1 contract = 100 shares. Max Risk/Loss = $8.83 * 100 = $883. |
Probability of profit | 59.61% |
Expected move | for 15th September ’23, based on ATM straddle: +/- $3.72 |
IV rank | 30.42% |
3) Bearish on the 10yr yield - bullish on TLT
If you're think that the 10yr yield will retreat in the coming month, then you might consider a bullish strategy on TLT, like the credit put spread, which aims to take a profit, while limiting the potential downside.
Here's what it looks like:- Sell to Open TLT 15-Sep-23 94 Put
- Buy to Open TLT 15-Sep-23 89 Put
1. Strategy: A bullish credit put spread is a bullish strategy that involves selling a put option and buying another put option with a lower strike price on the same underlying asset and with the same expiration date. This strategy is used when the trader expects a moderate rise in the price of the underlying asset.
2. Trade setup: In this case, the trader is selling to open a put option on TLT with a strike price of $94 and buying to open a put option with a strike price of $89. Both options expire on September 15th, 2023.
3. Premium and risk: The trader is receiving a net premium of $1.55 per share, for a total credit of $155 (since each contract represents 100 shares). This is also the maximum risk of the trade. The maximum loss is $345, which is the difference between the strike prices ($5) minus the net premium received ($1.55), multiplied by 100.
4. Breakeven point: The breakeven point at expiration is $92.45, which is the higher strike price minus the net premium received.
5. Implied volatility (IV) rank: The IV Rank is 30.42, which is well above the 20%-mark which we use as an indicator on whether to sell or buy premium.
6. Days to expiration (DTE): There are 28 days left until the options expire.
Options are complex, high-risk products and require knowledge, investment experience and, in many applications, high risk acceptance. We recommend that before you invest in options, you inform yourself well about the operation and risks. In Saxo Bank's Terms of Use you will find more information on this in the Important Information Options, Futures, Margin and Deficit Procedure. You can also consult the Essential Information Document of the option you want to invest in on Saxo Bank's website.
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