Update: Bond Funds Reverse from Overbought Extremes

Friday update: Bond ETFs are reversing sharply after rallying into short-term overbought territory.  Here is our report from Thursday after the bell.

Rising prices in bond ETFs could represent a bottom, a pause before a bigger break, or both.

If profit-taking in stocks turns into something more serious, driving traders and investors

back toward bonds, then the current reversal in bond ETFs, for example, could represent a

significant milestone. And if the buying in bonds and bond funds merely represents short-covering in advance of another leg lower, as bond vigilantes sell the debt of the public

sector, then it is possible that the currently overbought conditions could swiftly reverse,

sending bonds and bond ETFs back toward levels where traders historically have been more

willing to buy than sell in the short-term.

Heading into Friday’s trading, bond funds from the iShares Barclays Aggregate Bond Fund

(NYSE: AGG) to the iShares Barclays 20+ Year Treasury Bond Fund (NYSE: TLT) continue to climb

deeper into short-term overbought territory. Shares of AGG have spent six out of the past

seven trading days overbought, while TLT has finished technically overbought for five

sessions out of the same seven.

However much traders may or may not want to bet on rising interest rates and the return of the

bond vigilantes, it does appears that, in the short-term, the long bond trade may be overcrowded

and a little profit-taking over the next few days should not surprise anyone. Both AGG and

TLT have developed negative edges heading into Friday’s open, with the negative, short-term

edge in TLT topping half a percent.

Turning to the high yield market, we can see that the SPDR Barclays High Yield Bond ETF (NYSE: JNK) has finished in technically oversold territory for a second day in a row on Thursday. At the same time, the iShares IBoxx High Yield Corporate Bond ETF (NYSE: HYG) has finished lower for two consecutive sessions, but remains just outside of technically oversold territory.

As of Thursday’s close, JNK has a positive edge in the short-term of just under 1%. The

positive edge in HYG is just over three-quarters of a percent.

Other ways to get exposure to high divident markets is through exchange-traded funds like the

iShares S&P US Preferred Stock Index Fund ETF (NYSE: PFF) or the PowerShares Financial

Preferred Portfolio (NYSE: PGF). Both funds traded lower by modest amounts on Thursday. But

those pullbacks were enough to take PFF and PGF into oversold territory where they have

earned short-term, positive edges of just over a quarter of a percent.

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David Penn is Editor in Chief of TradingMarkets.com