The U.S. Treasury is preparing to sell approximately $112 billion in medium- and long-term debt this week, stirring concerns among bond markets about potential gaps in demand.
On Tuesday, the Treasury Department will conduct an auction for $48 billion in 3-year notes. This will be followed by an auction for $40 billion in 10-year notes on Wednesday, and $24 billion in 30-year bonds on Thursday. While billions of Treasury bills with a maturity of under one year are also being auctioned, their short-term nature attracts less scrutiny.
Record-Breaking Borrowing Levels
These auctions come after the federal finance manager recently announced a record borrowing level of $776 billion for the fourth quarter of the year. For the first quarter of the following year, the borrowing level is expected to reach $816 billion, also a record. The surge in borrowing can be attributed to high government spending and increasing interest costs on debt.
Concerns about Debt Supply
The increased supply of government debt has raised concerns about the demand for this debt in the future. BMO Capital Markets’ Ian Lyngen highlighted the troubling trend of strong demand for only one out of the nine 3s/10s/30s auctions in the third quarter. This trend does not bode well for upcoming offerings, according to Lyngen.
The Importance of the 10-Year Treasury Auction
Of all the auctions, investors will be closely watching the auction for the 10-year Treasury, which is considered an economic indicator as it underpins rates on mortgages, credit cards, and bank loans. This auction holds significant importance in the fixed-income world and attracts a diverse range of global participants and investors.
As bond markets observe these auctions, they will be especially vigilant for any signs of weakness or lack of demand from potential buyers.
Investing in Government Auctions: How to Assess Yield and Demand
Investing in government debt is a common strategy for many investors, who rely on the yields offered at auctions to gauge the demand for these securities. One important factor to consider is the highest yield offered at the auction, which typically begins at 1 p.m. Eastern time. If the government has to increase the yield at the auction, it can indicate weak demand from investors.
Another metric to watch is the bid-to-cover ratio, which compares the dollar value of bids with the dollar value of debt offered. A falling bid-to-cover ratio suggests less robust interest from investors. Additionally, higher purchases by primary dealers, who buy up any unsold debt, can signal trouble, as can lower purchases by foreign investors.
As of October 2022, foreign ownership of U.S. government debt stood at 23%, down from 34% a decade ago. This decline in foreign ownership further underscores the importance of assessing demand and yield at government auctions.
Despite these potential concerns, there are reasons to be optimistic about the upcoming auctions. Yields on 30-year and 10-year government debt have risen significantly in 2023, reaching near 15-year highs at 4.831% and 4.662% respectively as of Monday. This increase in yields may attract more investors looking to lock in higher returns.
Furthermore, the Treasury’s decision to auction lower-than-expected amounts of long-dated debt is another positive sign. This could incentivize investors to take action and secure yields at current levels, knowing that reduced supply may result in lower yields.
It’s important to note that auctions cannot technically fail due to the nature of the Treasury market. As one of the largest and most liquid markets globally, primary dealers are obligated to purchase government debt at any price, guaranteeing its liquidity.
However, if even one auction shows weaker signs of demand, it could significantly impact market sentiment and bring government spending under intense scrutiny. According to Apollo Global Management’s chief economist Torsten Sløk, such an auction could have far-reaching consequences.
In conclusion, assessing yield and demand at government auctions is essential for investors. By considering key metrics such as yield differentials, bid-to-cover ratios, and primary dealer activity, investors can make informed decisions about investing in government debt.
Remember to always conduct your own research and consult with a financial advisor before making any investment decisions.