Bond Market Bearishness Is Reaching a Tipping Point

Sentiment is sour in the bond market...

Bonds continue to fall week after week. One major bond fund is down double digits so far this year.

Bets on lower bond prices are piling up. Investors are as bearish as we've seen in years. But following their lead would be a bad idea today...

The smart choice is to make the opposite trade. In fact, history suggests we could see a double-digit jump in bond prices once the trend reverses.

Let me explain...

Longtime readers know the power of contrarian investing.

When you see everyone making the same bet, it's smart to take the other side of the trade. That's because once everyone has already sold, there's no one left to push prices lower.

That's what's setting up in the bond market right now. We can see this negative bond sentiment through the Commitment of Traders ("COT") report for bonds.

Each week, the COT report tracks what futures traders are doing with their money in real time. Then, it breaks down the data into two groups...

First, it shows what commercial hedgers are doing. This is the "smart money" that works on Wall Street. They're generally good market timers.

On the other end of the spectrum are the speculators. These are the small guys trying to make a quick buck. They take the opposite bet of the hedgers... And they're usually bad market timers.

Today, we're focusing on speculator bearishness toward bonds. The COT report for the 10-year Treasury yield shows this setup. Take a look...

Speculators are the most bearish they've been on bonds in roughly three years. And they've rarely been this bearish over the past two decades.

This kind of sentiment typically points to a reversal in bond prices. Let's use the iShares 20+ Year Treasury Bond Fund (TLT) – which holds long-term government bonds – to see it...

Over the past decade, TLT has rallied three other times after a sentiment setup like this – in 2014, 2017, and 2018. Let's take a look at each of these, starting with 2014...

Speculator bearishness hit a multiyear high on December 17, 2014. But betting against bonds back then was a bad idea.

TLT went on to rally 10% in a little more than a month. As it turns out, the sentiment bottom led to an immediate reversal.

That takes us to our second example...

Sentiment toward bonds hit multiyear lows on January 3, 2017. Shortly after, TLT took off for another 10% rally through the beginning of September.

The most extreme example came in September 2018. It was the most bearish bond-sentiment level in history. But you might remember what happened next... Bond prices took off for a nearly 30% rally through the following August.

This is what's possible when speculators give up on an asset. Typically, it leads to a reversal in the short term. History shows that's what we can expect today.

Now, the trend in bonds is still down. But when it turns higher, we could see a quick double-digit spike. And TLT is the easiest way to take advantage of it.

Good investing,

Chris Igou

Further Reading

"You don't want to just follow the crowd when they're all betting in the same direction," Chris writes. Right now, speculators are betting against bonds. But history shows that this could be a setup for a short-term rally... Learn more here: Bearish Bets Are Piling Up for Long-Term Bonds.  

Buying against the crowd is tough, but it's one of the best ways to beat the market. When investors all head in one direction, it creates a huge opportunity. And this setup is exactly what we saw a few months ago... Read more here: This Beaten-Down Commodity Is About to Soar.

Market Notes
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