MarketWatch reports why investors will monitor treasury auctions closely.
(emphasis mine) [my comment]
Jul 27, 2009, 4:15 p.m. EST
Why stock investors will monitor Treasury auctions closely
U.S. 20-year inflation-indexed securities awarded at 2.387% and a healthy cover
By Kate Gibson, MarketWatch
NEW YORK (MarketWatch) -- Unlike some past years, the U.S. stock market will pay close attention this week as the Treasury sells a record amount of government debt involving $235 billion in assorted bills, notes and its inflation-indexed 20-year bonds.
"The one thing that makes this all plausible is that last week, the Fed Chairman [Ben Bernanke] in his testimony to Congress stated that while the recovery may be underway, it will not likely include inflation [WOW. So, according to Ben Bernanke, the Fed has printed trillions (very inflationary) AND the economy is recovering (also inflationary), but inflation is still "not likely"? Bernanke is either incompetent or dishonest, take your pick]," said Kevin Giddis, head of fixed income trading and research, Morgan Keegan.
"This was the best news the markets could hope for and it is likely the reason for the rally in stocks," said Giddis of last week's trade, which on Friday had the Dow industrials closing at their highest level since early November.
On Monday, stocks and Treasury prices fell as the government kicked off what will be a record $235 billion in government bills and notes put up for sale this week. Read the Bond Report.
Financials and consumer discretionary shares fronted the late-session turn higher as the Dow Jones Industrial Average ended at 8,108.51, up 15.27 points, or 0.2%. The S&P; 500 Index added 2.92 points, or 0.3%, to 982.18, its highest closing level since the broad-market gauge topped the 1,000 mark on Nov. 4, 2008, while the Nasdaq Composite [s: comp] rose 1.93 points, or 0.1%, to 1,967.89.
The auctions, which will surpass the record $104 billion sold in late June, should bring back in play the issue of "overwhelming supply," a valid concern offset so far "by the outlook for growth, or lack thereof, in the second half of the year," said Dan Greenhaus, an analyst with the market strategy group at Miller Tabak & Co.
"Should below trend growth prove a reality, the potential impact on corporate earnings, stock prices and the Treasury market cannot be discounted," said Greenhaus.
"If the stock market is right and the economy in the second half of the year will have a strong rebound, then interest rates are going higher due to higher inflation and demand on the part of foreigners, who own half our debt, and others for higher yields for the enticement of buying the enormous new supply," said Peter Bookvar, equity strategist at Miller Tabak.
Monday's auction had the Treasury selling $6 billion in inflation-indexed securities at a yield of 2.387%.
"The backdrop of this auction was implied inflation expectations that have ticked up over the past few weeks to the highest level since mid June, with the rally in stocks and also the U.S. dollar index trending near the lowest level since December. The other key auction of the week will be Thursday's seven-year as the others are shorter term in nature that should not present a problem in selling," said Bookvar.
The government on Tuesday plans to sell $42 billion in two-year notes, with MF Global Inc. researcher Nick Kalivas expecting average to lower demand. "The supply may be too much and the leading data suggests foreign interest may be weaker," Kalivas wrote.
Tuesday will also bring the sale of $27 billion in 52-week bills and $30 billion in 4-week bills, followed by $39 billion in five-year notes Wednesday, and $28 billion in seven-year notes on Thursday.
"I am not hoping the auctions go poorly, but people worry whether or not these things will be fully subscribed," Peter Cecchini, a partner at Seven Bridges Management, said in a phone interview on Friday
The Wall Street Journal reports that shorter-term Treasuries are down after 2-year auction disappoints investors.
JULY 28, 2009, 4:15 P.M. ET
Shorter-Term Tsys Down After 2-Yr Auction Disappoints
By Deborah Lynn Blumberg
Of DOW JONES NEWSWIRES
NEW YORK (Dow Jones)--Treasurys maturing in the next two to five years were weaker Tuesday on the heels of a disappointing two-year Treasury auction that was seen as a barometer for the government's remaining Treasury note sales this week.
The worse-than-expected results don't bode well for Treasury's auction Wednesday of a record $39 billion in five-year notes. Treasury will also sell seven-year notes Thursday. In total, the government will offer up more than $200 billion of Treasury notes and bills this week, a record amount.
"The rather poor two-year auction results are concerning," said Robert Allen, managing director at Banc of America Securities, "because supply should be more difficult to digest as the maturities move out the curve. At a minimum, we might see buyers take a wait-and-see approach," Allen said.
In late trade, the two-year note was off 3/32 in price to yield 1.08%; the three-year was down 4/32 at a 1.65% yield; and the five-year was off 4/32 to yield 2.60%. Longer-dated Treasurys were faring better with stocks down. The 10-year note was up 6/32 for a 3.69% yield, and the 30-year bond was up 28/32 at 4.56%.
Trade took Treasurys' benchmark yield curve, the gap between the two- and 10-year yields, to 261 basis points from 268 basis points Monday.
A major factor playing into the weaker results of the $42 billion two-year note auction was the hefty size of the offering. This month, Treasury added to the amount of two-year notes for sale for the first time in 2009. George Goncalves, managing director and head of fixed-income rates strategy at Cantor Fitzgerald, said investors were nervous about how much more the government could bolster its two-year auctions.
The fact that "we don't know where we're headed from here could introduce some volatility into the front end [of the yield curve]," he said, and likely kept buyers at bay at Tuesday's sale. "The risk has been put back into" shorter-dated securities, that they are "not going to be steady and less volatile with the Fed on hold," Goncalves said.
The two-year auction results were disappointing since investors had expected to see good demand given recent reassurances from the Federal Reserve that interest rates will remain low for some time, and after last month's sale drew very strong interest from large institutional investors - including foreign central banks. That interest, though, plunged in July to about half of what it was at the last sale, to 33%, compared with 68.7% June and the 39.1% average of the past 12 sales.
Market Oracle asks why is the US financing its debt at the short end of the yield curve.
Why the U.S. is Financing its Debt at the Short End of the Yield Curve
Jul 28, 2009 - 12:37 PM
The Greatest Subprime A.R.M. of All is our Debt - It troubles me greatly to know that while the 30 year Treasury bond is yielding a mere 4.6%, we are not locking in that low rate for our newly issued debt. Any thinking American knows it would be best to take advantage of that ridiculously low yield and finance the Treasury's borrowing at the long end of the curve.
However, much like those homeowners who chose to think in terms of weeks not years when evaluating their long term finances, our government has subjected us all to what amounts to the mother lode of all subprime adjustable rate mortgages.
The fact that the Treasury Department must issue a record amount of debt in the ensuing years will put upward pressure on interest rates. Add to that a record-low Fed Funds rate and a $1.7 trillion monetary base, and the prospects for higher inflation and interest rates are fairly certain. So why are those in power refusing to ensure the future solvency of our country?
Here are the relevant facts to make you aware of just how significant this problem really is. The U.S. will sell $42 billion in 2-year notes, $39 billion in 5-year notes and "just" $28 billion of 7-year notes this week alone. That's $109 billion in auctions for the week—an all time record high! But the most troubling aspect of this auction isn't the sheer volume of debt that must be sold, it is the fact that most of it is being sold on the short end of the yield curve.
The overall debt picture is subject to the same fiscal irresponsibility. Of the total $6,591,740,000 publicly traded marketable securities outstanding, over $5.4 trillion are due in less than ten years. And according to the Department of the Treasury themselves, 55% of that total debt will mature in the next two years!
It remains a mystery as to why our government refuses to lock in a low interest rate for our ballooning debt obligations [No it isn't. Much of the demand for short term treasuries comes the global derivative and securities lending markets, where they are used as collateral (long dated treasuries are considered riskier and inappropriate for collateral requirements). So everytime an investor buys a call option on gold, this creates demand for Treasury bills.]. Of course the initial outlay of interest would be higher, but wouldn't that be worth it to know we are locking in a rate that is near an all time record low? My guess is since the current budget deficit would be higher if the debt was sold longer term, it is just more politically expedient to mortgage our future instead. [This is also part of the reason, for course.]
There's no denying the huge gamble that we have undertaken. Because our surging debt load must be rolled over more frequently, we have made a bet that rates will stay low for a very long time. However, we now have in place what amounts to the perfect recipe for creating inflation--low interest rates, easy money and runaway debt. All of which virtually guarantees interest rates will be much higher in the future.
The options subprime mortgage borrowers hoped for of either being able to refinance at a lower rate or sell their homes at a profit never materialized. Instead, many were forced to declare bankruptcy and/or walk away from the properties. Unfortunately, if the U.S. Treasury does not get its fiscal house in order, we may be forced to effectually walk away from our debt either through default or by paying it back in worthless dollars.
On July 6, I explored the makeup of the US debt.
Makeup of the US Debt
On the TreasuryDirect website, I looked up the Monthly Statement of the Public Debt (MSPD) (which lists the types of Treasury Securities issued, the related maturity dates, and the "Amount Outstanding") and downloaded the Excel File for Primary Dealers for May 2009. From this, I got the following data:
Total Treasury Bills.......................................... 2,065,401 million (32%)
Total Treasury Notes....................................... 3,211,303 million (50%)
Total Treasury Bonds......................................... 632,546 million (10%)
Total Treasury Inflation-Protected Securities........ 531,019 million (8%)
Amount due in second half of 2009 which needs to be rolled over: 2,260,123 million (35%)
The falling 30-Year Treasury yield over the last three decades
The shrinking supply of 30-year Treasury bonds is a big reason why long term interest rates have fallen. Treasury Bonds only make up 10 percent of the national debt today. There are several reasons for the reduced supply of long dated treasuries.
1) With many regarding Treasury bills as the least risky investment available, it became the preferred collateral for the global derivative and securities lending markets. As these markets expanded, the Treasury took advantage of the growing demand for Treasury bills to fund its operations with more short term debt. As a result, the size and frequency of long-term bond issues declined significantly in the 1990s and early 2000s, reducing the supply and pushing down yields.
2) The US government used its budget surpluses to repurchase 30-year Treasury bonds in the late 1990s. This helped drive the yield of Treasury bonds under 5 percent.
3) The U.S. Federal government stopped issuing the 30-year Treasury bonds for a four and a half year period starting October 31, 2001 and concluding February 2006. This lack of supply helped keep the yield of Treasury bonds under 5 percent.
The Treasury's funding problem
Bloomberg reports that $1.1 trillion new Treasuries need to be sold by year-end.
Investors anticipating another "summer rally" may be disappointed as Treasury Secretary Timothy Geithner accelerates debt sales to finance a record budget deficit. After more than doubling note and bond offerings to $963 billion in the first half, another $1.1 trillion may be sold by year-end, according to Barclays Plc, one of the 16 primary dealers that are obligated to bid at Treasury auctions. The second-half sales would be more than the total amount of debt sold in all of 2008.
Combined with the 2.2 trillion debt that needs to be rolled over, the treasury needs to sell 3.3 trillion dollars in the next six months. It will be very interesting to see how they manage such a feat.
"Overwhelming Supply" Of US Debt
1) This week the Treasury will sell a record amount of government debt involving $235 billion in assorted bills, notes and its inflation-indexed 20-year bonds.
2) The U.S. will sell $42 billion in 2-year notes, $39 billion in 5-year notes and "just" $28 billion of 7-year notes this week alone. That's $109 billion in auctions for the week-an all time record high!
3) The auctions, which will surpass the record $104 billion sold in late June, will bring back in play the issue of "overwhelming supply."
4) The backdrop of this auction was implied inflation expectations that have ticked up over the past few weeks to the highest level since mid June
5) Leading data also suggests foreign interest may be weaker.
Disappointing two-year Treasury auction
1) Treasurys maturing in the next two to five years were weaker Tuesday on the heels of a disappointing two-year Treasury auction
2) The worse-than-expected results don't bode well for Treasury's auction Wednesday of a record $39 billion in five-year notes.
3) This month, Treasury added to the amount of two-year notes for sale for the first time in 2009.
4) "The risk has been put back into" shorter-dated securities
5) Last week, the Fed Chairman (Ben Bernanke) in his testimony to Congress stated that while the recovery may be underway, it will not likely include inflation.
6) Investors had expected to see good demand given recent reassurances from the Federal Reserve that interest rates will remain low for some time and were disappointed.
The US is financing its debt at the short end of the yield curve
1) Of the total $6,591,740,000 publicly traded marketable securities outstanding, over $5.4 trillion are due in less than ten years. 55% of that total debt will mature in the next two years!
2) The US is financing its debt using the short term treasuries because:
3) Much of the demand for treasury securities comes from the short end of the yield curve via the global derivative and securities lending markets, where short term treasuries are used as collateral.
4) The current budget deficit would be higher if the US debt was sold longer term, making it more politically expedient for the US to use short term financing to lower its interest costs.
5) Since its surging debt load must be rolled over more frequently, the US is financially vulnerable to a rise in short term interest rates.
The Treasury's funding problem
1) The treasury needs to roll over 2,260 billion (35%) of its debt in second half of 2009.
2) On top of the rolling over old debt, the Treasury also needs to sell another $1.1 trillion by year-end.
3) Combined, the treasury needs to sell 3.3 trillion dollars in the next six months.
Conclusion: The simply aren't enough investors to absorb all the US debt being auctioned off, which means treasury yields will continue to rise. Furthermore, remember that the treasury sold an enormous quantity of one year bills around September and October of last year after Lehman collapsed. Rolling over this mountain of debt could prove challenging if inflation starts rearing its head.