Another Round In The TLT Vs. PGX Pair Trade

seekingalpha11-19 20:30

The recent Fed Funds Rate cuts have triggered a buying frenzy in corporate fixed-income securities, leading to mispriced credit spreads across various credit ratings.Despite the rate cuts, new IPOs ...

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PGX Pair Trade</title>\n<style type=\"text/css\">\na,abbr,acronym,address,applet,article,aside,audio,b,big,blockquote,body,canvas,caption,center,cite,code,dd,del,details,dfn,div,dl,dt,\nem,embed,fieldset,figcaption,figure,footer,form,h1,h2,h3,h4,h5,h6,header,hgroup,html,i,iframe,img,ins,kbd,label,legend,li,mark,menu,nav,\nobject,ol,output,p,pre,q,ruby,s,samp,section,small,span,strike,strong,sub,summary,sup,table,tbody,td,tfoot,th,thead,time,tr,tt,u,ul,var,video{ font:inherit;margin:0;padding:0;vertical-align:baseline;border:0 }\nbody{ font-size:16px; line-height:1.5; color:#999; background:transparent; }\n.wrapper{ overflow:hidden;word-break:break-all;padding:10px; }\nh1,h2{ font-weight:normal; line-height:1.35; margin-bottom:.6em; }\nh3,h4,h5,h6{ line-height:1.35; margin-bottom:1em; }\nh1{ font-size:24px; }\nh2{ font-size:20px; }\nh3{ font-size:18px; }\nh4{ font-size:16px; }\nh5{ font-size:14px; }\nh6{ font-size:12px; }\np,ul,ol,blockquote,dl,table{ margin:1.2em 0; }\nul,ol{ margin-left:2em; }\nul{ list-style:disc; }\nol{ list-style:decimal; }\nli,li p{ margin:10px 0;}\nimg{ max-width:100%;display:block;margin:0 auto 1em; }\nblockquote{ color:#B5B2B1; border-left:3px solid #aaa; padding:1em; }\nstrong,b{font-weight:bold;}\nem,i{font-style:italic;}\ntable{ width:100%;border-collapse:collapse;border-spacing:1px;margin:1em 0;font-size:.9em; }\nth,td{ padding:5px;text-align:left;border:1px solid #aaa; }\nth{ font-weight:bold;background:#5d5d5d; }\n.symbol-link{font-weight:bold;}\n/* header{ border-bottom:1px solid #494756; } */\n.title{ margin:0 0 8px;line-height:1.3;color:#ddd; }\n.meta {color:#5e5c6d;font-size:13px;margin:0 0 .5em; }\na{text-decoration:none; color:#2a4b87;}\n.meta .head { display: inline-block; overflow: hidden}\n.head .h-thumb { width: 30px; height: 30px; margin: 0; padding: 0; border-radius: 50%; float: left;}\n.head .h-content { margin: 0; padding: 0 0 0 9px; float: left;}\n.head .h-name {font-size: 13px; color: #eee; margin: 0;}\n.head .h-time {font-size: 11px; color: #7E829C; margin: 0;line-height: 11px;}\n.small {font-size: 12.5px; display: inline-block; transform: scale(0.9); -webkit-transform: scale(0.9); transform-origin: left; -webkit-transform-origin: left;}\n.smaller {font-size: 12.5px; display: inline-block; transform: scale(0.8); -webkit-transform: scale(0.8); transform-origin: left; -webkit-transform-origin: left;}\n.bt-text {font-size: 12px;margin: 1.5em 0 0 0}\n.bt-text p {margin: 0}\n</style>\n</head>\n<body>\n<div class=\"wrapper\">\n<header>\n<h2 class=\"title\">\nAnother Round In The TLT Vs. PGX Pair Trade\n</h2>\n\n<h4 class=\"meta\">\n\n\n2024-11-19 20:30 GMT+8&nbsp;&nbsp;&nbsp;<a href=https://seekingalpha.com/article/4738391-another-round-in-the-tlt-vs-pgx-pair-trade><strong>seekingalpha</strong></a>\n\n\n</h4>\n\n</header>\n<article>\n<div>\n<p>The recent Fed Funds Rate cuts have triggered a buying frenzy in corporate fixed-income securities, leading to mispriced credit spreads across various credit ratings.Despite the rate cuts, new IPOs ...</p>\n\n<a href=\"https://seekingalpha.com/article/4738391-another-round-in-the-tlt-vs-pgx-pair-trade\">Source Link</a>\n\n</div>\n\n\n</article>\n</div>\n</body>\n</html>\n","isBrief":false,"type":0,"news_type":1,"symbol":"PGX","symbol_name":"优先股指数ETF-PowerShares","start_time":0,"source_url":"https://seekingalpha.com/article/4738391-another-round-in-the-tlt-vs-pgx-pair-trade","article_id":"2484943235","we_media_id":null,"thumbnails":["https://static.seekingalpha.com/cdn/s3/uploads/getty_images/1146767362/image_1146767362.jpg"],"rights":null,"url":"https://stock-news.laohu8.com/highlight/detail?id=2484943235","pubTimestamp":1732019400,"sourceInfo":{"source_id":"seekingalpha","name":"Seeking Alpha"},"weMediaInfo":null,"summary":"The recent Fed Funds Rate cuts have triggered a buying frenzy in corporate fixed-income securities, leading to mispriced credit spreads across various credit ratings.Despite the rate cuts, new IPOs sh","collect":0,"end_time":0,"defaultTopTitle":"seekingalpha.com","property":[],"viewcount":null,"language":"en","relate_stocks":{"PGX":"优先股指数ETF-PowerShares","BK4550":"红杉资本持仓","TLT":"20+年以上美国国债ETF-iShares","BK4585":"ETF&股票定投概念","BK4581":"高盛持仓","BK4588":"碎股"},"translate_title":"TLT与PGX配对交易的另一轮","themeId":null,"isJumpTheme":false,"ttsUrl":null,"symbols_score_info":{"PGX":0.9,"TLT":0.9},"content_text":"The recent Fed Funds Rate cuts have triggered a buying frenzy in corporate fixed-income securities, leading to mispriced credit spreads across various credit ratings.Despite the rate cuts, new IPOs show no significant change in credit spreads, indicating no fundamental improvement in corporate credit quality.I recommend a pair trade: long iShares 20+ Year Treasury Bond ETF and short Invesco Preferred ETF to exploit the mispriced credit spreads.Timing is crucial; credit spreads may remain narrow until a catalyst event triggers a rapid widening, making treasuries a safe haven during market distress.Our focus is on finding undervalued securities that offer \"Alpha\" in this overvalued market, despite the public's perception of reduced corporate debt risk.ogichobanov  Co-authored by Relative Value. This article was first published to members of my service on November 17th 2024 Fixed-income overview With the 0.50% Fed Funds Rate cut on 09/18/2024 and the following 0.25% cut on 11/07/2024, the two-and-a-half-year cycle of rising the shortest-term interest rate that started in March 2022 has ended. How deep the cut will be, how long it will take to reach there, or how \"bumpy\" the road ahead will be is beyond us, as this knowledge lies in the prerogatives of the fortune-tellers. We do know that the Federal Open Market Committee (FOMC) has cut the overnight federal funds transaction rate by 0.75% and somehow unleashed a buying madness in the corporate-issued fixed-income securities universe. The mass of the articles I have read in the past couple of months stressed the \"fact\" that \"the Fed is cutting the interest rates\" - that is, ALL the interest rates across the yield curve. No wonder that led to total FOMO buying of all kinds of fixed-income corporate-issued vehicles, regardless of the duration risk or the credit risk they bear. At the same time, we observed a steady up-shift of the whole 1 to 30-year yield curve that started mid-September 2024 and has been running for two months now. The combination of increased interest in corporate fixed-income and decreased one in treasuries led to an additional contraction of the to start with narrow credit spreads, depicted on the graph below. Risk premiums (TradingView) This graph illustrates how the risk premium develops in time for the publicly issued US dollar-denominated corporate debt with various credit ratings(A-blue, BBB-red, BB-pink, and B-purple). Since the beginning of the Fed Funds Rate cuts, the credit risk spread has continuously narrowed to extremely low levels for both the investment grade and the high-yield fixed-income vehicles. From the data above, one can conclude that the general public deems the US corporate debt, regardless of its duration or credit quality, way safer than what it was years back. Our point here is that we do not know the direction in which any of these instruments will trade in the future. It is impossible to tell without a crystal ball whether the treasuries will attract safe heaven-seekers, the private-issued fixed-income vehicles will have a reality check, or both at the same time. The one certain thing is that the spreads are mispriced at the moment. How do we know for sure? Let me show you. Credit spread on new IPOs The idea behind the table below is pretty simple. We wanted to find out whether there is a sound financial logic behind the narrowing of the credit spreads, or not. The smart way to do so is to ask the \"smart money\" (pun intended) and these are the underwriters of the fixed-income securities. To put a price on a new IPO these guys make a most thorough analysis of the issuing company and when they put a corresponding nominal yield of the new security we should choose to believe that this is perhaps the most accurate evaluation for both the new instrument and the issuer. This is the best realistic price at which the said corporation can finance its operations at the given moment. And no surprise, this price is represented as a spread above what is considered to be the risk-free rate - the rate of the US Treasuries with the same duration. Should a company that has a history of financing its operations with say BBB-rated debt start issuing new fixed-income with lower and lower spread to treasuries, it will either go up in the credit rating food chain, or the math is broken. IPOs comparison (author's spreadsheet) To fill the table above with data, we used the exchange-traded fixed-income IPOs that were listed in the past couple of months from companies that have similar, older securities, for comparison's sake. Our goal was to find out whether the idea of first upcoming and after that real Fed Funds rates cuts will allow the issuers to finance themselves at lower spreads. Luckily for our research, the exchange-traded IPOs shown above have various credit quality and duration, so we can claim more representative results from the analysis. I hope it is obvious that the companies are issuing fixed-income instruments in line with their previous IPOs, as is to be expected. A cut in the overnight federal funds rate could not and should not make a corporation a better issuer of 5-year notes or perpetual preferreds. It's just not how the cookie crumbles. Once again - we have no idea if the longer-term treasury yields will continue to shift up or will retrace down. The spreads are the thing that is mispriced, and we want to exploit that to our advantage. The trade Last year, we entered the same trade of expected credit spreads widening, as was described in our article. All the considerations described then are still valid, so I will not be repeating them. I just added some additional ones above, as the credit spread narrowing is now even greater than a year ago, and we needed to find out whether there is a solid reason why. It turns out there is not. As before, we choose to lock a trade in the long-duration segment of the yield curve, as we believe it has the most potential. Long leg As a long leg in our trade, we take iShares 20+ Year Treasury Bond ETF (NASDAQ:TLT). TLT portfolio characteristics (iShares website) At the time of writing this article, risk-free 30-year Treasury bonds are trading at 4.62% while the 20-year ones are at 4.72% yield. In June last year, when we posted the same trade, they were 3.9% for the 30-year yield treasury and 4% for the 20-year one. US 30-year treasury yield (TradingView) US 20-year treasury yield (TradingView) Short leg At the same time, a group of fixed-rate perpetual preferreds rated BBB and below, mainly from the US banking sector, are trading as if they are a couple of credit risk notches higher. Preferred stocks info (proprietary software) For the sole reason of comparison, I'm showing you three of the long-term baby bonds of Entergy Corporation, a prime debt issuer, which are way better credit quality than any bank-issued preferred stock and are priced way more adequately. This comes only to show that madness is not everywhere in the market. ETR baby bonds info (proprietary software) Depending on the HTB availability and cost to borrow, an investor could choose any and everyone from the group of perpetual preferred stocks above. They are all extremely overvalued, compared to their benchmark - the longest-term treasuries. The credit spread at IPO for the low end of the investment grade fixed-rate preferred stock has been steadily around 2.5% post-2008 financial crisis, as studied in detail in this article. In the text above, we showed that this has not changed for the most recent exchange-traded IPOs, so we have all the reasons to believe this is the fair credit spread for the group of preferreds. Using Invesco Preferred ETF (NYSEARCA:PGX) as the short leg in the trade gives us some advantages, that we would like to exploit. That way, we can take a simultaneous short position in the whole basket of mispriced preferreds at a reduced borrowing rate. On top of that, we are eliminating the possibility of being short-called in a single ticker or holding a short position in a single ticker outlier that refuses to widen its credit spread. PGX details (Invesco website) Investing at least 80% of its total assets in fixed-rate preferred stocks gives PGX pretty consistent distributions through the months and years. Since the beginning of 2019, it has distributed an average of $0.73 to its holders. The fund is calculating an average distribution rate, so it should be OK for us to do it too. PGX distribution rate evaluations (Invesco website) This allows us to calculate an average distribution yield and credit spread above treasuries for this period for the ETF. PGX risk premium calculation (TradingView) This graph serves two purposes. First - it depicts that the credit spread of PGX has never been so narrow for years. As shown above, there is no sound financial reason for that, and everything we studied is pointing out that a correction is due. The second task of the graph is to give a visual illustration of the sharp and deep widening in the risk premium in times of market distress, as is to be expected. At this point, I believe the trade should be pretty obvious to anyone who is following our services, for it has been discussed a couple of times now. For our new readers, the initial explanation of why PGX is a more than suitable short candidate is given in detail in our article, from a year ago. Conclusion  Please bear in mind that this proves to be a difficult pair trade. As obvious as it is, timing is everything. The credit spreads could narrow with months until usually a catalyst event occurs and triggers a spread widening in a matter of days. Having a long position in TLT as always has value added. Despite all the hate towards the treasuries in the past couple of months, they still are the highest credit rating vehicles on the exchange, the ones that everybody is running to when the bad news hits the fan.","kind":null,"is_publish_news":true,"is_publish_highlight":false,"is_publish_live":false,"is_publish_wemedia":null,"editions":null,"column":"","sentiment":"0","news_tag":"analysis","news_rank":0,"symbols":[],"gpt_button":0},"commentList":[],"isCommentEnd":true,"newsSizeData":{"likeSize":1,"commentSize":0,"repostSize":0,"favoriteSize":0,"likeStatus":false,"favoriteStatus":false},"APP":{"userAgent":"Mozilla/5.0 AppleWebKit/537.36 (KHTML, like Gecko; compatible; ClaudeBot/1.0; +claudebot@anthropic.com)","isDev":false,"isTTM":true,"deviceId":"web-server-community-laohu8-v3","version":"4.29.1","shortVersion":"4.29.1","platform":"web","vendor":"web","appName":"ttm","isIOS":false,"isAndroid":false,"isTiger":false,"isTHS":false,"isWeiXin":false,"isWeiXinMini":false,"isWeiBo":false,"isQQ":false,"isBaiduSwan":false,"isBaiduBox":false,"isDingTalk":false,"isToutiao":false,"isOnePlus":false,"isHuaWei":false,"isXiaomi":false,"isXiaomiWebView":false,"isOppo":false,"isVivo":false,"isSamsung":false,"isMobile":false},"href":"/m/news/2484943235"}