The Way to Make Money in the Bond Market
by Teeka Tiwari 06/02/09
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On March 19, the Fed announced that it would pump $1.25 trillion into government bonds. On the day of the announcement, bond prices soared as the rate on the 10-year bond declined by 54 basis points to 2.59%.
The yield on the 10-year bond rose to 3.75% last week, the highest since November. So, we can see that the March rally was purely short-covering by nervous traders. The Fed is buying up all this government paper in an attempt to keep interest rates low. Its plan is to spur economic activity via artificially low interest rates.
The problem is that it's not working; even with all that firepower at their disposal, they cannot keep rates from rising. As such, the next major financial bear market could well be in U.S. government bonds.
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Do not buy bonds; you will almost certainly lose money. More than $3 trillion will be borrowed by the U.S. government this year, far more than in any other year. In order to attract global investors, rates will have to go up.
Five-percent coupons on the long bond look to be in the cards, but, as we saw in the 1980s, interest rates can go to 18% or more. At this time, there is no plausible way to tell how high rates will go, but we can very reasonably assume that the overarching trend will be higher rates, not lower ones.
Interest Rate Increases Can Be Great News For Your Portfolio
Aside from trading interest-rate futures, there are several exchange-traded funds (ETFs) that allow you to profit from government debt interest-rate fluctuations. (Learn 5 ETF Advantages.)
One particular ETF for the long bond is the Lehman Brothers 20 Year Treasury Index (TLT).
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