Government Bonds Are Crashing... Here's What Comes Next

We've seen no shortage of market mayhem in 2022...

Stocks recorded their worst sell-off since the COVID-19 crash. Commodity prices have soared. And inflation continues to run rampant.

Still, in recent weeks, some of the wildest moves have happened in an unlikely corner of the market... bonds.

Specifically, U.S. government bonds – considered to be some of the safest assets out there – are crashing.

The iShares 20+ Year Treasury Bond Fund (TLT) holds a basket of long-term government bonds. Right now, it's in its second-worst decline on record.

Regular readers know we normally look at big moves as momentum signals... But this is one instance where prices probably can't fall much further. And a double-digit rally is nearly certain, starting soon.

Let me explain...

Investment returns generally follow a "risk versus reward" pattern. The riskier an opportunity is, the higher your expected long-term gain.

For example, stocks move around a lot. They're highly volatile compared to other assets. But investors who stick it out tend to reap bigger rewards.

Bonds are the opposite. Investors don't buy them to get rich. They do it to generate stable returns in their portfolios.

Unfortunately, buying bonds hasn't worked out over the past few months...

TLT holds a basket of long-term U.S. government bonds. Because these are long-term investments, they tend to be more volatile – but they're still government bonds. These "boring" investments generally lead to boring returns.

That hasn't been the case lately. TLT is currently in its second-worst decline on record. The fund peaked on December 3, 2021. And it's down 23% since then. Take a look...

Interest rates have soared in recent months... The 10-year U.S. Treasury yield more than doubled from 1.4% late last year to 2.9% today. That caused a devastating drop in TLT.

A 23% drop would be a big deal even in the stock market. But again, TLT is a boring bond fund. It's not supposed to fall this far, this fast. And historically, it hasn't...

TLT has been around for two decades. We've only seen one worse decline in that time. And it was barely worse than today's decline.

It happened during the Great Recession. The fund peaked in December 2008 and was down 28% by June 2009.

No one wanted to bet on bonds back then. That was the wrong instinct, though... TLT jumped 13% within four months.

The only other time we saw losses close to today's was last year. TLT fell 22% from its August 2020 high through its March 2021 low.

Investors were hugely bearish on bonds then, too. But once again, betting on more losses was the wrong move... TLT rallied 11% in the following six months.

Simply put, TLT has rarely fallen this far. But when it has, a solid rally followed.

The trend in TLT is still down. The fund is currently trading at a three-year low. But this isn't like a stock fund, where no one knows how far prices can fall.

Bonds offer more security and fewer investment unknowns. That means prices can only drop so much. The largest decline on record wasn't much worse than today's... And that was during the worst economic downturn of our generation.

Simply put, we're likely darn close to the bottom for TLT. And when prices reverse, a double-digit gain is nearly certain. That makes TLT a bet to consider once the uptrend returns.

Good investing,

Brett Eversole

Further Reading

"Sentiment is sour in the bond market," Chris Igou writes. Right now, investors are betting on lower bond prices. And history shows this could be a setup for a short-term rally... Learn more here: Bond Market Bearishness Is Reaching a Tipping Point.

"Speculators are making what seems like the obvious trade," Chris says. But when everyone is betting in the same direction, the opposite is likely to occur. And that gives us an opportunity to profit when the trend reverses... Read more here: Bearish Bets Are Piling Up for Long-Term Bonds.

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