Friday, March 26, 2010

Bernanke is Walking on a Greased Tight Rope: Will TLT Go Up or Down?

I could not resist posting this quote from Seamus, who contributed the great article on DBV here back in November.

"Bernanke is on a tight rope walking, trying to keep his balance, only it's
the end of March fast approaching and all of a sudden, the rope has grease on
it." © Seamus 2010

Yesterday we were discussing the effects of interest rates on mortgages and TLT and the fact that Bernanke does not control the long bond yields, the market does.

The questions is whether investors should buy or sell TLT.

If there is another sharp drop I favor the chances that there will be another flight to safety, and thus, TLT will rise.

In situations where TLT can go up or down, our favorite straddles come into play. Here are TLT straddles for June 2010 and Jan 2011:

These were computed with our StraddlesCalc tool and how the number of contracts to buy for a $1k and $2k position on each side of the straddle, as well as the maximum move needed for the position to be profitable.

Note that the 2011 puts are far more expensive than the calls, even though their strike (85) is further away from the current price than the call strike. As it stands, on the down branch TLT would need to drop to $76.36. This seems like a nutty trade right now.

Disclaimer: the author does not own any TLT at the moment.

Options are dangerous and may cause 100% loss. lease do your own due diligence. This is not advice.

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