Benefits of shorting a TLT deep in the money call instead of TLT directly

I do not in general like inverse ETFs, I actually do not in general like any ETFs because most track the underlying bad and lag it and the inverse or leveraged ones working with derivatives are even worse in that sense. That said I remark that I do not know particularly about the other treasury bond ETFs: TBF or TBT, so they could be an exception but I would check that thoroughly before using them. The risk with bad ETFs is that on the long term it can have big divergences with what they are supposed to track and you end up profiting much less than what you should have if it tracked correctly. They might just have a small daily tracking error or even do better some days but on the long run the errors add up and can hert you. As for TLT, it is quite transparent, their creator publishes clearly at any point of time, what Treasuries it holds, and its Net Asset Value tracks those treasuries very well, I wrote about that here, it’s a bit outdated but the idea can be applied any time.

The problem with TLT, and with any short, is that shorting directly implies you need to put lot of money so if you want to short 100 TLT stocks @110 you would need to put 11.000 dollars, so not only do you use a lot of money that you could use in a good opportunity to buy stocks but you also have the problem that TLT pays monthly “dividends” equivalent to a 4% annual yield and being short you will be the one charged with that. So those are 2 big problems to consider. I gave that a thought and since I have options experience I realized that I could avoid both problems by shorting instead of TLT directly one of its short dated maturity deep in the money calls, so I shorted the strike 95 September call, there you have to just put a bit over 1500 to short if TLT is @110, so much less than 11.000 dollars and for the same potential benefit. That call behaves just like the TLT ETF because it’s deep in the money and because its maturity is very short, so it basically has no time value and the little time value it has is in your favor because you are shorting so you get the time value, the one that loses the time value is the one who is buying the call. The “risk” is that if TLT drops under 95 fast before the mid September call expiry date, that would let you will only profit up to 95 (so 15 dollars per etf) instead of more. But it is extremely unlikely that that happens, in order for that to happen interest rates should go up very fast and in any case you will make quite much, so it’s not a bad risk, its a risk of profiting less than you could have but you will still have a lot of profit and fast. The most likely scenario is that TLT drops “slowly” for example to 100- 105 and you close your short a few days before expiry by mid September (note that you will not lose money doing this because as time passes the time value is reduced and benefits you) and short the next month call, lets say the strike 85 or 90. And you can keep on doing this call rolling month by month, or until you decide to take the profit, having the big advantage that you pay nothing for the dividends and you have to put a very very small amount of money to short for the same potential benefit.


About jrv

I was born in Spain and lived in Belgium, Chile, France, USA, Argentina among other places. Currently I am trying to settle down in a wild place. I am "retired", even though now I dedicate more hours "working" for my investments than I ever worked in the real labor market where I used to work in IT and Banking. I am a family man, I have a lovely wife, several sons and one step daughter. I have humble tastes, I like to stay home and read about companies and investments. I started investing at 25 before the internet bubble exploded. I did not know much about investing and liked technical analysis so my results were pretty bad. Fortunately I did not have much to lose. Some years later in 2006 bored of doing only real state investments and with quite a lot of money saved I opened an account in a cheap and excellent online broker and started again. This time I did not want to commit the same mistake, so I decided to follow a model. I heard that Warren Buffett was the best at making money via stocks so I started by reading a lot about him, all of his shareholders letters and several of the books that he recommended. I learned a lot, started applying his investing principles and reading a lot of 10K's. Digested news from lots of different sources. Basically I started buying very good and cheap companies and holding them for ever if possible and if nothing changed fundamentally. When the housing crisis started I was more than 75% cash. At that time I identified good companies at incredibly cheap prices so I invested most of my savings in stocks. In less than I year I doubled. By the second semester of 2009 I turned my software company into an investment vehicle and dedicated myself full time to it. My wife and I decided to change our lifestyle and moved from Belgium to the beach in a wild country. The goal was to keep fixed costs low in order to be able to live with a minimum 6-8% yearly return but specially to move away from the inhuman life of civilization and to have finally some peace and sunny weather to concentrate better on investing. Now I can think and study about companies 60 hours a week and I am doing great. I can finally do what I want full time and can proudly say that I have never been so happy, specially also with my just born 4th son, my other great kids and my sweet wife who supports me fully while I study most of the day and patiently wait for the opportunity to make a swing ! You can learn a bit more about my portfolio by viewing it at or you may learn more about me and my family by following the link "Author's site" from the menu above.
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3 Responses to Benefits of shorting a TLT deep in the money call instead of TLT directly

  1. Vance says:

    Hi jrv,
    How will you avoid having your calls assigned when TLT goes ex-dividend?

    – Vance

  2. jrv says:

    Hi Vance, I roll them every month at most 1 day before the ex-dividend date, which in this case is on the 1st of every month. So for example I close the September call by buying it back before the 1st October, and sell the October or November call. Since I am selling a longer maturity I earn the small time value when I roll, at least I don’t lose anything rolling. The important thing to make sure is that the time value is not smaller than the dividend, if that is the case the calls will not be exercised. I do this indefinitely until I finally close the position hopefully when the TLT has fallen. Like this, by being short on calls I avoid paying the dividend I would have to pay if I was directly short and I use much less cash.

  3. Pingback: Shorting treasury bonds becoming serious & other weekly comments | The Intelligent Investor Blog

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