Next to a sure thing

We always say there is no sure thing in the investment world. It is true indeed but occasionally there will be something popping up that is virtually a sure thing, although still not necessarily 100% probability. I think we are witnessing such a trend that is almost a certainty to be happening now. I’m talking about the bear market for bonds.

Bond has just completed its unbelievably long lasting bull market since 1980s, yes, about 40 years ago! The 10 year Treasury rate reached its peak over 15% by late 80s (meaning bond prices were at the lowest point) and then started to move down almost like a straight line. Inversely bond has started to move up to enjoy a fantastic bull market for the past 4 decades. See the chart below that visualizes the beautiful one way trend in the past 4 decades!

 

The potential turning point started 5 years ago and actually I had noticed and pointed it out then (see here and here). Of course, for such a long persistent trend, you cannot expect it turn around to go to the other direction suddenly. More realistically, it needs some time to pause and struggle to determine where to go; it is called consolidation or bottoming. For the long term interest, it takes about 3 years (2016) to finally decide it wants to change its direction and move up. Here we are. The 10 year rate has already comfortably moved up beyond the 3% threshold. I think the bull trend for interest (bear trend for bond) has been firmly established.  Unless there is something extremely devastating for the world that has to push down the interest rate again, there is no turning back. Of course it will still fluctuate and may even drop back below 3% at some point, the overall trend should be up and up. The 4% rate may not be too far away from now. I bet it may come by end of next year. If the history is any indicator, this kind of bond/interest trend will be lasting very long, often in decades.

People often ask me what to do for their portfolio. Asset allocation is something I will be promoting for sure and I always say bond should be included as part of the portfolio. But here is the dilemma: when interest rate goes up, bond goes down. So buying long term bonds is suicidal and certainly not advisable. Yes, short term bonds can still be considered as I just talked about but they are more like cash positions with much less interest to earn. In addition I also offer the idea to use a good life insurance with guaranteed cash value growth as an alternative to bond investment for your portfolio (more here). And now I have got another idea, although unconventional for sure. Since the bond trend in either direction usually lasts for very long time and since it is next to a sure thing that the interest rate will go up persistently with bonds to go down along with in the years to come, why not simply have a portion of the portfolio to short long term bonds to ride the bond bearish trend? Although conventionally bond positions for a portfolio are always long betting for an uptrend, there is no rule to go against the convention by shorting the bonds when its gigantic trend is going down. I personally think this is a very safe bet to be included in the portfolio as long as you go with a comfortable position size. I personally will be very comfortable with a 5-10% of my long term portfolio to bet against the long term bonds!

I understand shorting is not something most people feel comfortable with and you may think it is technically very challenge to do so. Actually now with ETFs widely available, you can just make one click to short long term bonds. TBF is the ETF to short bonds for 20+ years maturity. You buy it just like buying a usual stock and that’s it. Since this is not a leveraged ETF, it’s much safer with less volatility for holding. Of course, it will still fluctuate along with the bond market inversely but I’m very confident its long term trend is going up and I can comfortably buy and leave it without much monitoring. I think this can be a good portfolio diversification portion that can serve a good buffer for potential large stock volatility. One last note, the last two weeks were unusually harsh for bonds as they have crashed by 5%, which is very rare for bonds. On the contrary, TBF has shot up a lot in return. I think it is very overdone and bonds will likely rebound to relieve the oversold condition and TBF will come down accordingly. So there is no rush to buy TBF as of now but buying it at weakness will be a wise move for me!