The Bond Trade is Almost Here

Volatility is the root of all profits.

Every great macro trade begins with the same setup:

That’s exactly what’s happening today.

Right now, it helps to measure volatility within the AI trade and the VIX itself, where widening differences can lead you down a very powerful conclusion:

That creates a phenomenon called the “dispersion trade.”

Simply put, this is when volatility traders will buy volatility in a given corner of the market (right now, that’s AI) while simultaneously selling volatility in a diversified index, like the VIX.

That mechanically compresses the VIX, as should be the case given the S&P 500’s diversified nature, containing the spillover effects.

However, there’s a problem.

~42% of the S&P is now centered in the largest AI constituents, with another 10-13% going to the so-called bottleneck stocks as a derivative to the AI trade.

If you read our South Korean report, specifically the volatility section, then you understand dispersion and concentration do not go well together.

All this to say,

The risk of single-stock volatility spikes spilling over onto the VIX and S&P is rising as we speak.

That directly creates demand and preference for safe haven assets like currencies and bonds.

Today, we’ll examine the three forces that have kept long-duration bonds trapped in a range.

More importantly,

The one indicator explaining ~76% of the TLT price action, and why it could soon flip in favor of a new rally in the asset class.

That’s why I think…

The Bond Trade is Almost Here:

Each time financial markets face a shock or recession,

You can see two-year bond yields plummet relative to thirty-year yields, reflecting a cooler economy and the need to stimulate through what we now call quantitative easing (QE.)

When the spread closes, and 2Y yields spike to meet the 30Y, it means the economy is getting too hot and tightening needs to take place.

So let’s get today’s setup straight before we explore the three drivers:

That reaction may have been the result of new tariff policy, “too high” interest rates, and a slowing consumer in the US.

What started as a growth scare has now turned into a spike as the 2Y yield suddenly moved toward the 30Y.

I believe this one is due to a mix between AI inflation and the Iran war.

Both of which are temporary, creating a call option for lower 2Y yields altogether to resume the path they were in beforehand.

If that call option pays, I believe these three drivers will shift significantly:

We begin with the most important one.

Term premiums measure how much investors require in payment to hold these long-duration bonds.

Meaning,

The more they request, the less demand there is and vice versa, so this directly impacts the price of TLT as you can see.

Our job is to figure out what influences this premium appetite, and so far these are the most important influencers:

We can create reasonable expectations around two out of the three, as fiscal policy is as jumpy as they come right now.

Inflation

If you’ve kept up with my AI supply study, you know that the more players that come into support the bottlenecks in chipmaking and data center capacity, the lower the margins will be for everyone down the line.

Combine that industrial material headwind with the fact that token prices - and spending - are down over 20% in the past month.

AI used to be one major inflation worry, but it is quickly easing as these trends accelerate.

Then comes Hormuz.

Nobody knows when this war will end, but what we do know is that the Strait has to open at some point or risk a global disaster.

This directly answers the other indicator’s path.

Foreign Demand

More bond buyers prefer Chinese fixed income over American assets now. I believe this is because of the uncertainty around financing debt through more bond issuance.

I believe that a combination of AI slowdowns and a Hormuz opening can create a massive rotation that will start within equities.

Simply put,

The combined effects can suck trillions of dollars out of the AI trade, along with price stability returning, creating the perfect scenario for another “Growth Scare” to take over.

When countries lose confidence on their future growth prospects, their banks and investors become defensive. There’s nothing more defensive than US treasuries during such a scenario.

And that’s when bonds are bid.

Roughly 76% of TLT prices are explained by where the premium goes.

Removing the inflation and foreign demand uncertainty, essentially the reasons why the term premium has been rising…

Could drive the price of TLT higher as one of the most important indicators of future prices.

More than the net exposure, what matters is the rate of change.

I suggest you recap on my bank earnings breakdown, where I show you today’s setup is eerily similar to late 2021.

A time that resulted in a massive TLT bond rally due to banks boosting their reserves for these products.

The reason is simple:

This is called the liquidity mismatch for banks, where they cannot take on that many liabilities without having a similar asset base to meet expiring obligations.

Right now, with most of their commitments being short term (equity issuance, IPOs, trading) there’s no real need to have bonds on reserve anymore.

Rest assured though,

The capital cycle is peaking, and as maturities on obligations shift for banks toward more defensive businesses (lending, M&A, buybacks) then so do their balance sheets in favor of bonds.

I left the most unpredictable one for last.

We have a very important environment leaving bonds in the crosshairs:

That means less bond buying from what used to be the guaranteed bond buyer in the markets.

However,

That stance was rooted in the fact that inflation and deficits are out of control right now, meaning if my above call option scenarios on inflation play out…

We could see a return of the Fed as a net buyer of bonds.

Anything outside of that, I would take the FED as a surprise factor rather than an indicator we can reasonably track or have expectations around.

As the 30Y keeps hitting its 5% wall, I believe the risk/reward for long-duration bonds is looking very attractive right now.

And I’m not the only one who thinks so:

Over 268,000 call option contracts have been opened for January 2028 $120 strike.

What seems to be too far of a timeline for a payoff is actually a sign that this broader macro rotation could be at play.

Remember,

Bull and bear markets for bonds tend to last for several months, leaving me with the conclusion that traders have now started to contemplate the possibility of a range breakout into a renewed bull trend.

When and if I decide to act on this TLT trade is up to the indicators outlined above.

We can lock in close to 5% yields and get paid near 50% upside to just ride the risk asset rotation into safe havens.

As the Offside Portfolio sits in 50-55% cash, I believe this can be a great area to seek exposure into for a one-year time horizon.

Stay tuned, join Offside Premium for more.

In the meantime, here’s the latest from Goldman Sachs talking about emerging markets. I am an emerging bull especially during times when US bonds get bid, as we say in China for July - October 2025:

Until next time,

OFFSIDE RESEARCH

Against the Tape, Ahead of the Curve.