Removing TIP, Adding TLT to Investing Ideas

Takeaway: We are removing TIP from our Investing Ideas list, and we are adding TLT to it.


On June 2 we added the iShares TIPS Bond Fund (TIP) to our Investing Ideas list. Since then this ETF has outpaced the -1.3% decline for the S&P 500 ETF Trust (SPY) and the -4.4% decline for the iShares Russell 2000 ETF (IWM).


In conjunction with our #InflationAccelerating and #StructuralInflation themes, we’ve seen measures of domestic consumer price inflation creep up over the past several months. Indeed, CPI has nearly doubled from its February 2014 YTD trough of +1.1% YoY to +2.1% in the month of June. We’ve seen a similar trend of accelerating inflation in the GDP deflator as well, with the figure accelerating to +2% QoQ SAAR in 2Q14 from +1.3% QoQ SAAR in 1Q14.


Is the trend of accelerating inflation in the rearview mirror? With the recent downdraft in commodity prices, we are increasingly inclined to think so. Both Crude Oil and the benchmark CRB Commodity Index are now breaking down quantitatively on our intermediate-term TREND duration, which is typically a leading indicator for a phase transition in both market prices and reported fundamental data.


To the extent the US Dollar Index confirms its commensurate quantitative breakout, we could be looking at a situation where the rate of change in reported inflation and inflation expectations levels off. To that tune, it’s worth noting that the 5Y Breakevens have receded -13bps from their late-JUN YTD highs in the 2.11% range.


On the margin, this developing fundamental setup is negative for TIP, so we are looking to book the gain here.


As they have been throughout the YTD, fixed income continues to be our favorite asset class, so it should come as no surprise to see us rotate into the Shares 20+ Year Treasury Bond Fund (TLT) on the long side.


In conjunction with our #Q3Slowing macro theme, we think the slope of domestic economic growth is poised to roll over here in the third quarter. In the context of what may be flat-to-decelerating reported inflation, we think the performance divergence between Treasuries, stocks and commodities may actually be set to widen over the next 2-3M:


  • iShares 20+ Year Treasury Bond Fund (TLT): +12.4% YTD
  • S&P 500 ETF Trust (SPY): +4.5% YTD
  • iShares Russell 2000 ETF (IWM): -4% YTD
  • PowerShares DB Commodity Index Tracking Fund (DBC): -1.4% YTD


This view remains counter to consensus expectations, which is additive to our already-high conviction level in this position.  Be it Bloomberg consensus estimates that call for a 3.11% US Treasury 10Y Yield at EOY ’14 amid perpetual ~3% real GDP growth forecasts or speculative net length in the futures and options markets for 10Y Treasury Notes at -19.2k contracts on a rolling 4-week basis, consensus is far from being in the area code of bullish on bonds.


Fade consensus on bonds – especially as growth slows. As it’s done for multiple generations, the 10Y Treasury Yield continues to track the slope of domestic economic growth like a glove.



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