The Bond Trade of the Decade
... and what it means for crypto.
“I thought you were a crypto trader, why are you talking about bonds?”
First, please understand my core thesis. Crypto follows macro and trades more like a tech stock. In other words, it’s currently highly correlated to the stock market, only with more volatility.
Therefore, my first priority is to understand the world, and then I believe I’ll understand crypto.
So first bonds, then we’ll get back to crypto. Promise!
Now I recently published a video called ‘Bonds are Dead.’ It’s true, but there’s ONE more bond trade of a lifetime to happen first.
Here’s what is happening right now, and how I believe it all plays out.
Bonds 101
Government bonds are simply debt that’s issued to support government spending. In exchange for buying the debt, market participants like you and me receive a return.
Bond Returns
Bond yields vary based on the rate that they pay. Interest rates are set by the Federal Reserve. These interest rates change over time, thereby impacting bond returns.
Where Are We Now?
Current 10 year bond yields are roughly 3%.
They have risen dramatically relative to the May 2020 lows during Covid. Why?
Bond yields have risen because the FED has raised interest rates, thereby raising the cost of borrowing. Investors benefit with higher returns.
Existing bond values have an inverse relationship with interest rates. As interest rates rise, existing bond values decrease, and vise versa.
What Happens Next?
As I’ve been saying for some time, I believe the FED is going to pivot. This means they will at first go neutral (keep interest rates the same), but eventually cut interest rates and turn on the money printer once more.
When this happens, bond yields will decrease.
Why FED Pivot
I can’t go into all the details here, but check out this popular thread I wrote recently called ‘This Decade in Macro’ which lays out my big picture view on what’s happening right now.
Why Bonds Will Appreciate
When bond yields decrease (for example, from 3% to 1%), that makes the previously issued bonds at 3% worth a lot more.
For investors to get those better yielding bonds, they have to pay a higher price. The only way to buy them is on the free market. Price go up!
If you’re new here, my name is Alec Torelli and I’ve spent thousands of hours in crypto, DeFi and NFTs.
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The Bond Trade
If one believes in this thesis, the simple trade is to buy TLT. I’d avoid options since volatility is high and they charge a premium. Plus, one has to time it correctly.
Risk-Reward
I can’t say for certain what the upside is, but I’m estimating somewhere in the 20-30% range if this plays out like I described.
As for timing, it will probably take a year.
I’m 70% certain this plays out. If the FED doesn’t pivot, all bets are off. Be sure to understand the cause and effect relationships and first principles behind this trade.
Also, this is not financial advice, just my opinion and for educational purposes only.
How I’m Playing It
I’m personally NOT betting on the bond trade. I’m an asymmetric investor, and although there is some asymmetry here (upside probably 3-4x downside), the returns aren’t compelling enough.
Plus, I’d have to lock up a lot of capital for a long time to let this play out to make meaningful returns.
I like being right more than I like making money, so I enjoy putting the pieces together and documenting my thoughts to see if I will be historically correct.
Plus, I hope this helped some of you, whose investment strategy may be more fitting for this trade.
Bonds and Crypto
As discussed, it’s all connected. Crypto responds to macro. If the FED pivots and resumes the money printer, one can’t help but think this will be bullish for risk-on assets.
Since equities are 90% correlated with FED policy, and crypto is correlated with equities, it stands to reason that crypto would benefit if this all plays out.
Next Up
I’ll keep you up to date with how I’m playing the markets and crypto in future posts. Follow along if you haven’t already.
If you found this helpful, please like and share this post with a friend. It’s my signal to keep producing more content like this.
Your Turn
What are your thoughts on the bond market. How do you see this playing out? I know many of you are super sharp, and I’m always looking to learn from your wisdom.
Drop your $0.02 in a comment. GL out there!
Alec
It might be more beneficial if you give your reasoning behind the fed going from raising rates at record breaking rates, to then lowering rates within the next quarter or two, which is what would have to happen for your trade to be successful. Not much economic data to back your thesis….
In my opinion, you are way too early with your prediction. UnEmployment is still low, posted job wanted ads are still to high and we still have way too much liquidity in the market for the fed to pivot so quickly. Inflation is still out of control and the US still needs to spend the money from the infrastructure bill.
Also; for the fed to pivot so quickly, they would have to admit they made a mistake by overshooting. The fed is going to have a bit of a “wait and see approach” when they are done with this cycle of raising rates. They wouldn’t pivot to lowering rates until this time next year at the very very earliest.
Also, the fed follows the bond market, not the other way around. If you are betting on the bond prices going higher, then unemployment rate would have to rise, well before bond prices will increase. Municipalities/fed workers have only brought back 54% of their workers since covid. Meaning, municipalities/federal government are way behind in their rehiring.
Unemployment rate is not going higher in any significant way for some time. Even conspiracy theorists (whom believe the fed created this inflation to lower the value of sovereign debt), don’t believe the fed is going to flip back this year to an “easing policy”…..