Quote from 5yrtrader:
TLT is not "self hedging." Look how volatile it has been in the past two years and yields on the 30yr bond have fluctuated between 3 and 5%. You will lose your shirt in TLT if long term yields go up to 15%.
Think of it like this: a $50 stock pays a $2.5 dividend every year. The stock has a 5% yield. The stock drops to $10, but continues to pay its dividend. At $10 it has a 25% yield... but no one would be very happy with that yield if they rode it all the way down.
5yr
5yrtrader you make valid points. TLT has been volatile over the last couple of years and I would agree that nobody wants to see a $50 stock go to $10.
I tend to look at TLT as a tool in my toolbox, and like a tool it has a specific use and application. It would not make sense to use a hammer to tighten a screw. As I mentioned in a previous post, I use TLT as a hedge against the market and it has been very effective in this role.
To address your first point about volatility, I acquire TLT when my statistical models indicate an entry, and based on volatility, I establish derivative positions (options). My view is patient and long term. I have no anticipation of market direction or events, I simply respond to what the market gives me. I want volatility because that provides opportunities for increases revenue, minimization of risk and increases premiums. While I can see it might be undesirable for some, there are many like myself that consider volatility a strength rather than a drawback.
Regarding your second point about a significant capital loss... Because TLT is an index as opposed to a single stock company, it is not likely to go "out of business." (Unless the Gov folds and then we'll all be eating each other anyway and won't care much). Therefore, the probability that it will ever be worth $0 per share is negligible. So as an investment, it makes sense to enter into small positions and dollar cost average over time knowing that it will eventually progress in its up and down cycles. In addition, there are always counter moves within a larger, trending move.
In the meantime, I am being compensated with interest rates that are trailing the market. (How long that lag is is another question). So I have a revenue stream from interest, another from options premiums collected, and then the eventual capital gains when my shares of TLT which I have been dollar cost averaging on the way down, finally becomes profitable. All of this is gained while providing an effective hedge against the broader market. Also, the trailing yield works in my favor when interest rates are coming down.
I do not believe this strategy is appropriate for everyone, and that is why we each must find our own tools. But in this context, I believe TLT could be very effective and I stick to my original theory of it being self-hedging.
In your example above you had said "At $10 it has a 25% yield... but no one would be very happy with that yield if they rode it all the way down." Once again I agree with this in most situations. But I would ask you to consider, that if a $10 index had a 25% annual yield, do you really think it would stay at $10 for long? Interest rates would have to get extremely high for that opportunity to become unattractive!
Again I thank you for your contribution.
