Treasury yields are beginning to tick higher after the bout of volatility sent investors to safety. While rates haven’t surged, Treasury bond exchange traded fund investors should prepare for a rising rate environment.
“Bond investors and traders should consider preparing for the next wave of volatility, and the potential for rising yields should the economy improve, and easing end,” according to a Direxion note.
For instance, long-term, 30-year Treasury bonds could lose 16% if interest rates rise 1%, Direxion said. The iShares 20+ Year Treasury Bond ETF (NYSEArca: TLT), which has a weighted average maturity of 27.3 years and an effective duration of 16.32 years, could see price declines of as much as 16.3%, given a 1% rise in rates.
An ETF’s duration provides a measure of sensitivity to changes in interest rates, so a longer duration translates to a greater negative impact if rates do rise.
Consequently, bond investors may consider shifting to shorter duration options, such as the iShares 1-3 Year Treasury Bond ETF (NYSEArca: SHY), which has a 1.86 year duration; iShares 3-7 Year Treasury Bond ETF (NYSEArca: IEI), which has a 4.47 year duration; or iShares 7-10 Year Treasury Bond ETF (NYSEArca: IEF), which has a 7.46 year duration.
Alternatively, inverse ETFs, or strategies that take the short side of a market, could act as a more aggressive hedge against rising rates and falling bond prices.
For example, the ProShares Short 20+ Year Treasury (NYSEArca: TBF) and Direxion Daily 20+ Year Treasury Bear 1x Shares (NYSEArca: TYBS) both try to produce the inverse, or -100%, return of long-term Treasuries. [Inverse Treasury ETFs Help Hedge Against Rising Rates]