Evening Brief – 08.03.23
The US Treasury released its quarterly refunding statement on Wednesday, in which it increased the size of its sale of longer-term debt for the first time in over two and a half years.
Treasury said it will sell $103 billion of longer-term securities at its auctions next week, which span 3-, 10- and 30-year Treasuries, and will refund approximately $84 billion of maturing Treasury notes and bonds, raising about $19 billion in new cash. This is a significant increase over the previous quarter’s total issuance of $96 billion, and higher than most dealers predicted.
“Over the next three months, Treasury anticipates incrementally increasing auction sizes across benchmark tenors” the statement read, adding it “plans to increase auctions sizes by slightly larger amounts in certain tenors in order to maintain the structural balance of supply and demand across tenors.”
The larger-than-expected increase in issuance reflects growing borrowing demands, which contributed to Fitch downgrading the sovereign US credit rating. Fitch predicts US finances to deteriorate over the next three years. But that’s based on old and obsolete assumptions: the present reality could be worse.
Separately, the Treasury said it is also targeting an increase in its cash balance to $750 billion at year-end, which according to Barclays strategist Joseph Abate, would push T-bills to exceed the 20% ceiling of overall debt suggested by the Treasury Borrowing Advisory Committee.
We’ve had a trifecta of news over the past week that has spooked bond investors: a larger-than-expected increase in debt issuance, a Fitch downgrade and a Bank of Japan policy “tweak”, where it recently decided to manage its yield curve control policy. The bank is allowing the 10-year JGB yield to rise to 1% from the previous 0.5% cap. This has effectively removed a floor from the market and has pressured US bonds as well.
The US 10-year yield has surged nearly 20 basis points during this period and is now trading at 4.19%, its highest level in about nine months. The price action is leading to a bear steepening of the curve, where long-term rates rise faster than short-term rates, and reigniting concerns about inflation and the economy.
“From a supply/demand perspective, long-term Treasurys also look overbought. With $32 trillion of debt and large deficits as far as the eye can see and higher refi rates, an increasing supply of Treasuries is assured. When you couple new issuance with QT, it is hard to imagine how the market absorbs such a large increase in supply without materially higher rates,” tweeted Bill Ackman, founder and CEO of $18.5 billion hedge fund Pershing Square Capital Management.
Ackman further noted that he is “short in size” the 30-year Treasury yield through options as a hedge on stocks and as a “standalone bet.”