RYDEX TREASURY BOND BEAR FUND ASSET FLOW

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APPLICABLE TIME FRAME(S):  

INTERMEDIATE

UPDATE SCHEDULE:

Each weekday morning by 3:00 AM EST for the previous day's activity.  Rydex does not release their data until late in the evening or early the next morning, so there will sometimes be an even longer delay with this data.

EXPLANATION:

The Rydex family of mutual funds (www.rydexfunds.com) has a selection of funds that cover broad indices as well as narrower subgroups.  These funds are popular with market timers, as some of them are highly leveraged (as much as two-to-one, so for example a 1% move in the S&P would correspond to a 2% move in the fund), and the Dynamic funds can be entered or exited intraday.  The most popular funds are based on the S&P 500 and the Nasdaq 100.  Rydex makes the asset levels of these funds available to the public each evening, and by observing where these active traders are placing their money, we can get a handle on their sentiment. 

In addition to the popular stock index funds, Rydex carries two funds based on the Long Treasury Bond (30-year).  The Bond fund's benchmark is 120% of the daily price movement of the current Long Bond.  The Juno fund's benchmark is -100% of the daily price movement of that same bond.  For example, if the price of the current 30-year bond increases by 1% on any given day, then the Bond fund should rise 1.2% while the Juno fund should DECREASE by 1%.

Here is a table of which funds comprise the Rydex bond asset class:

To get a handle on the sentiment of bond traders, we want to see how much money is flowing into the bearish Rydex Juno fund.  This indicator measures the amount the 10-day moving average of the percentage of assets in the Juno fund deviates from the 50-day moving average.  It gives us a good picture of how optimistic or pessimistic this group of traders is on an intermediate-term basis. 

Like all contrary indicators, when these traders become so optimistic that the asset flows into the bearish Juno fund plunge lower, it is usually a good sign that any further price rise in the 30-year Treasury is likely to be short-lived, and most likely we will see declining prices.  By the time these traders recognize a trend and shift their assets to benefit from it, it is usually too late.

GUIDELINES:

When the 10-day average of the bearish asset flows pulls more than 17% below the 50-day average, it has been an effective notice that these market timers have become optimistic in the shifting of their assets, and the trend of the 30-year bond (which has almost certainly been rising) may be in its latter stages.  However, once the 10-day average stretches more than 33% above the 50-day average, then these traders are becoming pessimistic and higher bond prices may be on the horizon. The red horizontal lines on the chart are +1 and +2 standard deviations from the mean since 2000, while the green lines are -1 and -2 deviations. 

The chart below shows a couple of distinct occurrences of the bearish Juno asset flow reaching extremes.  In late January 2002, the bulls on bonds became quite aggressive in their asset shifts, as the flow into the Juno fund plunged.  This was as price was recovering from the severe decline since November 2001. 

However, their enthusiasm was unwarranted, as bonds flip-flopped for the next month before declining sharply in March.  Going into late March, these traders' sense of optimism had worn off, and they began investing heavily in the Juno fund in order to bet on further declines in the 30-year bond (and higher interest rates).  This caused the bearish flow to rise to over +70%, almost a two-year record.  Not surprisingly, this marked the low for bonds (and a high in yield), as they marched higher for the next six months.

Although this is a real example and points out the value of following this information, we do not mean to intimate that the Long Bond ALWAYS peaks when there is a rush out of the Juno fund, or troughs immediately after the 10-day average rises 33% above the 50-day average.  It is a guideline and not a trading system unto itself.

STATS:

*Standard Deviation.  See below...

68% of readings (1 standard deviation) should be between -17% and 33%

95% of readings (2 standard deviations) should be between -42% and 58%

99% of readings (3 standard deviations) should be between -67% and 83%

In other words, we should expect a reading under -42% or over 58% approximately 13 times per year.  Since such a reading would be relatively unusual, it suggests that we are seeing an unsustainable trend.  These figures assume a normal distribution curve.

ADDITIONAL RESOURCES:

Rydex mutual fund family (www.rydexfunds.com)

© 2005  Sundial Capital Research, Inc.  All Rights Reserved.