Investment portfolios for 401k & IRA Roth made simple › Forums › FAQ › Frank—why do you suggest shorting TMV? It seems with interest rates at or near historic lows shorting TMV will be a long term losing trade as interest rates rise.
Frank GrossmannModerator11/07/2014 at 5:59 amPost count: 162
Here is a comparison to what happened with our TMV +20y hedge Treasury and the popular TLT +20y Treasury during the last 24 month with rising Treasury rates. Both TMV and TLT are 20+ year duration Treasuries. In fact TMV is about a -3x leveraged TLT ETF. So, by comparing the two charts, you can well identify performance differences between the two ETFs.
The yellow chart shows the 30 year Treasury rate, which went up from 3.12% to 3.64%. This is a 0.52 or 16.67% increase. Normaly Treasuries will go down when rates goes up. This is the case for TLT. It lost -8.85% during this 24 month period. TMV lost 15.3%, but because TMV is an inverse -3x leveraged ETF, we will need to short this ETF to have a Treasury hedge which moves in the same direction like the TLT ETF. This way, the -15.3% loss will be a +15.3% profit. If you divide this profit by 3 because of the 3x leverage, then the profit is still +5.1% which compares directly to the -8.8% of TLT.
So, you see that time decay and high management fees are acting strongly in our favor of our TMV short hedge, and even if treasury rates are increasing at a rate of about 0.25% per year (this was about the rate the rate went down the last 10 years) you will still make a good profit with TMV.
However, profit is not the main reason for the hedge. The TMV hedge can reduce draw-downs or risk by 30-50% at virtually no cost or even a small profit. The Return to Risk ratio of your investment does substantially increase with this hedge. So, for me such a hedge is one of the best long term investments you can do. It is clear, that during short periods of rising stock market, the hedge does eat up a part of your profits, but at the next draw-down, you will be very happy to have it in place and over longer periods it should not reduce your profits at all.
This graphic shows the decline rate of Treasury rates during the last 10 years. It is about -0.17% per year. It is a good assumption, that treasury rates will increase at about the same rate the next years. A +0.25% increase per year like the one in my above calculations would already be a very strong increase. If US economy does not recover substantially it is even possible that we will keep the current low rates for several years.
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