Musings on Interest Rates

by ETF Base on September 3, 2012

Since the Fed has projected that the Fed Funds rate will be virtually zero for another few years, investors may assume investments tied to interest rates will be range-bound during this period but nothing could be further from the truth.  For instance, with no major policy changes or announcements, we’ve seen the 10-Year Treasury yield drop from its record low of 1.43% to a recent yield of 1.83% before settling back a little closer to 1.63% this weekend.  But this 40 basis point move in the benchmark Treasury was all during a period of relative calm and a slow news cycle.  So, you can expect movement in rates regardless of Fed action, and so here are some ETFs representing various interest rate moves:

TLT - iShares Barclays 20+ Year Treasury ETF – This is the ETF to own for increasing bond prices (lower yields).  TLT is up 5% YTD.

TBF - ProShares Short 20+ Year Treasury ETF – This is the ETF you’d want to own in a rising interest rate regime since it shorts bond prices for long maturity US debt.  TBF is down 9% on the year.

Triple Leverage: TMF and TMV are the 3x leveraged 20+ Year Treasury ETFs.  I’m not a huge fan of holding leveraged ETFs since they degrade over time due to daily resets, but if you are hedging interest rates yourself or have a strong feeling about a move in either direction, you could certainly use these long or short.  Year to date, TMF is up 16%, while TMV is down 26%.  See?  You’d think opposing ETFs would have the same positive and negative return magnitude, but due to the daily resets, they are both artificially low compared to taking a full YTD move and multiplying by 3.  Regardless, for days to weeks periods of time, the value decay is not as significant and these could be used to exploit rapid moves in interest rates.

In general, interest rates on certain investments like savings, money markets and CDs probably aren’t likely to make appreciable moves in the next year, while mortgage rates could certainly rise since they follow the 10 year Treasury so closely.  Then again, some less sensitive loans like an instant cash payday loan are likely to stay at a steady rate unrelated to global sovereign yields.  I just depends on the segment you’re investing in or borrowing in.

Disclosure: No positions in any ETFs covered here.


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