Treasury Bonds Facing Downside Catalysts in Next 2 Months: Here’s How to Trade for Profit

New York, New York – The decline in long-duration treasuries is a trend that has persisted over the past few years, influenced by weakening fundamentals and increased pressure from treasury issuance. As we look ahead to the next two months, there are looming factors that could further impact long-duration treasuries negatively. These factors include a planned surge in long-duration treasury issuance in August and the potential for an additional increase in issuance as part of the Quarterly Refunding Announcement on July 31.

Long-duration treasuries have been on a downward trajectory for the past five years, a trend that intensified between 2020 and 2023. Factors such as higher-than-expected inflation, largely due to fiscal stimulation during the COVID era, have contributed to this decline. In the last year, the movement of long-duration treasuries has been relatively flat, with occasional volatility. This stagnant price action is evident in popular ETFs such as the iShares 20+ Year Treasury Bond ETF (TLT).

Looking at the year-to-date performance, long-duration treasuries experienced a rally in May and June, followed by a sharp reversal leading to a year-to-date drawdown of -8.65%. The challenges facing long-duration treasuries stem from high levels of issuance by the US Treasury, which has more than doubled the amount of outstanding bonds with maturities exceeding 10 years over the past five years.

The high issuance rates of long-duration treasuries, coupled with challenging fundamentals like persistent inflation and negative term premium, continue to exert selling pressure on these securities. The increase in long-duration treasury debt is evident in data showing a significant rise in outstanding marketable treasury debt with durations exceeding 10 years.

Looking ahead, there are potential catalysts that could trigger a sell-off in long-duration treasuries. The Quarterly Refunding Announcement process provides guidance on future bond issuance, with the most recent announcement pointing towards continued issuance at an annualized rate of $500 billion. However, August is set to see a spike in long-duration treasury issuance, with planned issuance of $49 billion, potentially leading to a bond sell-off if auction results are weak.

Another factor to watch is the possibility of a revision in the recommended long-duration treasury issuance rate in the upcoming Quarterly Refunding Announcement on July 31. With a projected increase in the 2024 deficit, there is a risk that long-duration issuance could be raised beyond the current run rate of $500 billion per year.

In anticipation of these developments, leveraged inverse treasury bond ETFs are being considered as a preferred trade. ETFs such as -2x ProShares UltraShort 20+ Year Treasury ETF (TBT) or -3x Direxion Daily 20+ Year Treasury Bear 3X Shares ETF (TMV) offer a way to capitalize on potential declines in long-duration treasuries. These strategies aim to take advantage of the expected movements in the market based on upcoming issuance trends and economic factors.

As investors navigate the evolving landscape of long-duration treasuries, there are inherent risks and potential hedges to consider. While a short thesis on long-duration treasuries could yield profits, factors like a slowdown in growth or rising foreign demand could trigger a rally in these bonds. By hedging with short duration bonds or taking long positions in US dollars, investors can mitigate some of the risks associated with the short trade. Time-bounding the trade to the next two months also helps to focus on specific catalysts driving the market in the near term.