Bond MOVE Index And TLT Trading Strategy (Backtest)

Last Updated on April 28, 2023

In 2022 the bond market experienced the worst drawdown in its history, and since then volatility has been off the charts. It seems like rates are moving like tech stocks did in 2000. Luckily, this can be seen through the volatility index of the bond market, the MOVE index.

The MOVE index is to the bond market what the VIX index is to the stock market. It measures the volatility of rates through the options market. But what we really want to know is: Is it useful to develop a profitable strategy to trade bonds?

In this article, we are going to see what the MOVE index is, how bonds perform when volatility is high and backtest a trading strategy using the MOVE index and long-term bonds.

Also, if you are looking for a profitable investment strategy, you might want to check out that link. We have hundreds of strategies with specific trading rules and backtests.

What is the MOVE index?

The MOVE Index measures U.S. interest rate volatility through the volatility implied by current prices of 1-month OTC options.

It is commonly referred to as the “VIX of the bond market”. It was created in 1998 by Merrill Lynch but acquired by Intercontinental Exchange (ICE) in 2019, along with a family of fixed income volatility indices. MOVE stands for “Merrill option volatility estimate”. 

Recently, the MOVE index has risen dramatically amid the rapid increase in interest rates by the FED and banking crisis. It started the year at 120 and spiked to 199 in March. For context, the MOVE index all-time high was reached during October 2008 when the index touched the 264 level. Now it is trading at 118, while its average since 2000 has been around 85.

How does TLT perform when the MOVE index spikes?

Usually when the VIX achieves highly unusual levels it is because the market is crashing, but it also signals that it may be a good time to buy to buy stocks.

However, it is not quite the same with the MOVE index and bonds.

Bond MOVE Index And TLT Trading Strategy

As you can see, when the MOVE index reaches high levels, measured as two times its standard deviation, it generally does not mean that it is a good time to buy bonds. Also, it generates very few signals.

This is the exact opposite of what happens with the VIX and the S&P 500, where high reading of the VIX usually means it is a good entry point to go long stocks.

Bond MOVE Index and TLT trading strategy – trading rules

Having this in mind, we asked ourselves:

What would happen to the performance of TLT if we avoid periods of high volatility? In order to test this, we created a simple trading strategy:

  • We hold TLT when the MOVE index level is under its historical mean 
  • We sell TLT when the MOVE index is over its historical mean 

As we mentioned earlier, the historical mean of the index is around 86. We don’t sum one or two standard deviations because it would leave the strategy with very little time in the market and very low performance.

Bond MOVE Index and TLT trading strategy – backtest

We started the backtest in 2002. The data is adjusted for dividends and splits. Here is the equity curve:

Bond MOVE Index and TLT trading strategy backtest

The equity curve shows a somewhat linear growth. Here are some metrics and statistics about the performance of the strategy:

  • CAGR is 2.80% (buy and hold 4.33%)
  • Time spent in the the market is 59.91%
  • Risk adjusted return is 4.67% (CAGR divided by time spent in the market)
  • Maximum drawdown is 21.34% (44.14%)

As you can see, this is not a super profitable strategy. What it simply does is avoid periods of high volatility. This was a little harmful to returns in 2008 but it came really handy in 2022. The maximum drawdown of the strategy is basically half that of the buy and hold strategy.

Bond MOVE Index and TLT trading strategy – conclusion

To sum up, the MOVE index is a great indicator of the volatility of the bond market. However, it does not seem to be a good indicator for trading bonds. Avoiding periods of high volatility doesn’t seem like a good idea. However, there are plenty of ways to implement the MOVE index into your trading strategy, and the one we presented today was just one of them.

Similar Posts