Signal du Jour - TLT - Sharpe 2.1 Win Rate 70%

Similar idea than yesterday, diversified. Let's keep digging in the bond space.

In yesterday’s issue of the Signal du Jour, we took a deep dive into short-term maturities in the bond sector with HYG. For those yet to subscribe, now’s your chance to access our detailed analysis.

Today, we're still navigating the bond market but shifting our lens to medium-term prospects. If yesterday's strategy was betting on short-term calm after recent market upheavals, today, we're anticipating a quieter medium-term.

This is about diversifying our positions while aligning with the market narrative and the data.

We explored risky corporate bonds yesterday. Today, keeping with our diversification theme, we’re focusing on TLT, the ETF tracking long-term US treasury bonds.

The Fed’s Influence

Yesterday’s choppy action in the equities and bonds perfectly summarized the market dynamic in Q3 - a few Fed speaker were scheduled to give their views on the economy, inflation, and the rate trajectory for next year. The market reacted to every sentence - a bit down, then up, then down again. To end up, yet again, fairly flat, unable to get outside of that very narrow (boring ) range.

And if the realized volatility has been unusually low lately, it is a nice change after months of high volatility in anticipation of the next Fed course of action.

And some big moves we’ve had. Here is a reminder of the TLT performance over the past two years.

The two-year performance was close to -40% at some point in early October and saw a sharp rise in historical volatility (in orange on the chart).

The highlight of Q3? Bill Ackman tweeted about how he was short the long-term bonds. That was enough to accelerate the trend and create more panic in the bond market.

But it’s been a month since realized volatility peaked, and things are normalizing. Why?

Well, the Fed again. It seems very unlikely that any rate hike will happen before next year, and TLT has since recovered from its lower level while the volatility cooled off.

Armed with a better understanding of the context - what does the data say? Is it possible that the market, still rattled by the extreme volatility observed over the past few months, is willing to overpay the fact that something could happen in the next few weeks?

Let’s find out.

The Signal We’re Watching