Observations On The US Government's Escalating Near-Term Funding Mismatch

Tyler Durden's picture

When Lehman Brothers filed for bankruptcy, traditional money repositories, previously considered safe, were all promptly abandoned by investors unsure if they will have access to capital the next day. As a result, money markets, repos, even savings and deposit accounts were plundered in what has been the closest equivalent of a 21st century run on the bank. The only safe venue became US Treasury Bills, as almost overnight nearly half a trillion in very near maturities were invested in the US as the last perceived safe repository of investor capital.

The rush for near-term safety ended up creating a historic precedent of negative yields on near-term Bills: investors were willing to pay the government to hold their money for them.

So where do we stand a year later?

One would expect that as the financial situation improved, and credit was unlocked, that investors would abandon the safety of low-yielding Bills and pursue risk. Ironically, not only has this not happened, but in the 12 months since October 2008, over half a trillion more, $560 billion to be exact, has been parked in T-Bills. Looking at the entire treasury curve, over 40% of the $7 trillion in marketable treasury securities, matures within one year, a dramatic increase from the roughly 30% a year prior. The chart of the current T-Bill maturity schedule is presented below:

And here is how a Year-over-Year comparison from October 2008 to October 2009 and one year forward maturity data looks. As noted, the overall increase in near-term maturities has increased by a staggering $562 billion, or 25% from the $2.3 trillion in near-term (one year) maturities in 2008.

Practically every monthly period has seen an increase in T-Bill allocation by investors. This is a troubling trend.

But before we get into the details of what potential problems this may bring to the US, as the funding mismatch accelerates, this is how the entire curve of marketable securities looked like as of the most recent available data. As noted previously, over 40% of the entire $7 trillion in marketable securities matures essentially within one year.

Couple of observations here:

  • The increased concentration in near-term UST maturities does not jive with repeated claims of a return to normal credit conditions. While last year's abnormal holdings of T-Bills was explainable as a run to quality from money markets in the wake of Lehman, the fact that this amount has expanded by more than half a trillion flies in the face of conventional wisdom that "everything is now back to normal."
  • The bigger threat is one of asset-liability maturity mismatch. As the assets on the US balance sheet become increasingly long-dated, courtesy of QE, and locking in record low rates, US liabilities in turn have shortened their duration to a record level. Almost $3 trillion in US debt will have to be rolled by the end of 2010. If realistic inflation expectations are any indication, all hopes of getting comparable interest terms on these securities once refinancing time rolls around, will be promptly dashed (we are not saying inflation is inevitable, even with QE 2.0 around the corner). Yet for all who claim inflation is a good thing, the one security that will be hit the most and the fastest will be precisely the T-bill universe, once all the curve steepeners already in place unwind very, very quickly. The result would be a major spike in interest expense payments by the government. The chart below presents the historical annual interest expense on all USTs by year. 2009 will be the first year in which the interest expense alone will be over half a trillion dollars (Zero Hedge estimates).

The concern is that even as the US debt, which as of Friday was at $11,868,457,477,911.94, and looks like it will hit the $12.104 trillion limit within a few weeks, continues to skyrocket, the interest expense paid on holdings will continue creeping ever higher. Keep in mind, at September 30, the average interest rate on Bills was a historically low 0.347%, and Notes yielded a QE-facilitated 3.043%. With the Fed out, can China and US retail investors support this record low interest at a time when UST supply keeps coming and coming?

And that assumes that the roll of the T-Bills will continue to occur without a hitch, which at a time when the UST QE is over, may be a rather bold assumption.

Yet one thing is clear: so far the proverbial "money on the sidelines" has only found USTs and specifically low-yielding Bills to be attractive. Risky assets have been shunned. So at a time when the equity rally has already had a counterintuitive 60% run up, courtesy of a few HFT platforms, some hedge funds and the Goldman prop trading team, just what is it about the market fundamentals (or the economy) for that matter, that will force investors to leave the security of Bills and go into a massively overbought equity market? (And we say counterintuitive because never before have investors bought risky and safe assets with the same zeal at precisely the same time). The answer is unknown, although with a $9 trillion deficit in dire need of funding over the next decade, it is safe to say that investors in Treasurys will not have problems finding opportunities to park their money.

Source: TreasuryDirect

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Anonymous's picture

Stimulus 2.0 for the UK? can the US be far behind?

http://www.timesonline.co.uk/tol/news/politics/article6898195.ece

AN0NYM0US's picture

midterms = stimulus 2.0

that probably why Romer said a couple of weeks ago that the impact of Stimulus 1.0 had peaked (of course that is crap given that most has yet to be spent, notwithstanding it's more pork than stimulus) whatever for the sake of the midterm elections there will be a second stimulus along with an extension of TARP and the housing tax rebates (as soon as this coming week for the housing)

I came across a columnist from Forbes whom I had never heard of - looked at some of his early articles - pretty good track record e.g. http://www.forbes.com/2009/03/26/geithner-bernanke-citigroup-personal-fi...

dnarby's picture

Actually, Timmah said half of the stimu-less has already been spent (via Meet the Press, I think).

Of course, that half was spent on some maintenance and to continue normal state operations, so not much stimulatin' goin' on there...

I have a feeling the US "Stimulus v.2.0" won't be so easy to pass somehow...

Anonymous's picture

Greater Depression on the way!

or

Dollar pegged to Krona...

I can't see anything except this binary outcome...

SDRII's picture

is this not precisely why there is a current attack on MM funds? kill them rotate money to the banks and have those same buy the longer duration securities to extend the portoflio duration? Now that Cp has died, conduits with it, and t-bills are the only game in town for the MMs, it makes perfect sense that they try and chase that moeny it no longer duration paper via the banks. The last two pots to loot are the 401k complex and the MM reserves

RozzertheDropsky's picture

Another reason to prize ZH. This is exactly the kind of analysis I've been wondering about, since I've never been completely convinced that Paul "Deficits Aren't that Big a Deal" Krugman actually knew what he was talking about. This quantifies the problem in chilling terms. In cruder terms, the question is becoming, can Geithner & Bernanke continue to issue Govt. T(oilet) paper with only their personalized skid marks as a return, or will savvy investors such as the Chinese, realizing the trap we've laid for ourselves, demand real interest in order to help us with rolling over the short-term paper. Say, enough to make that $538 bil in interest payments go up over $1 trillion a year. How will that look as a budget item, when interest is nearly 1/3 of baseline US budgets (absent stimuli). Might begin to temper the zeal for nation building in the Medieval Muslim world, for one thing.

yy's picture

Great post TD, a few points

 

1. Your 2009 interest cost estimate is much higher than I have seen, I recently ran into numbers that make 2009 lower than 2008, not unexpected giving the near zero cost of near-term UST (where lots of money is as you suggest). I recall something in the range 350-380B for 2009.

2. QE 2.0 and Stimulus 2.0 are likely to emerge early 2010, as 4Q GDP is likely to print negative, and if not probably 1Q 2010 will. 3Q numbers pretty much suggest that. Therefore, the pressure on treasuries may be later rather than sooner. Near-term UST demand is likely to stay the same as long as the economy is weak and the money in MM needs to stay there. In fact if a 20% correction ensues in the next few weeks or months we should expect more money into MMF and therefore easily supporting the rolling of additional 300-500B of demand, the problem is that the budget deficit is running much much higher. It is so far a balancing act, clearly trying to buy time, but the end game may have some time to be played out.

Tyler Durden's picture

1. We are at $383 bn through October, and December is a big pauout month, usually around $100 billion, which is projected, as well as $20 billion for November.

2. MM's have a motivation to move into Bills even more courtesy of Geithner's amendment making suspending MM redemptions a possiblity. The entire government is now a hedge fund, except that taxpayers get -2% and -20%.

yy's picture

1. The 383B is for FY 2009 ended 9/2009 and not Calendar 2009, check out http://www.treasurydirect.gov/govt/reports/ir/ir_expense.htm

Given the lowering of financing costs across the spectrum, FY 2010 could be about $400-450B despite the 1T added debt, which will be at the level of 2006 and 2007 and less than 2008. This is bar USD crash, of course.

 

2. I agree that the noise over MMF is dangerous and so far is under the radar. But, there is nothing as dangerous as hitting the public with MMF adversity, it is a sure case for outsized trouble.

 

All in all I am with you, but it is a slow-moving wreck and not a crashing rock on our heads, YET.

 

Stevm30's picture

You would think that the announcement of QE2 and Stimulus2 would accelerate the crash - since one will further dilute the currency, and the other will direct more resources toward unproductive uses.

mgarrett84's picture

When the usual balance sheets are fully levered you need to set your sight on levering up new and bigger balance sheets.

Tyler,  what happens when the Excess reserve pot is targeted.   This likely flows into risk assets right??  How strong of a thrust could this provide.  Also,  would draining excess reserves possibly cause dislocations in the yield curve??

Tyler great post per usual.   

Anonymous's picture

Tyler -

Could you please elaborate or post the link behind your comment:

"MM's have a motivation to move into Bills even more courtesy of Geithner's amendment making suspending MM redemptions a possiblity."

I totally missed seeing anything about Geithner making suspending MM redemptions a possiblity.

Green Sharts's picture

Treasury has recently announced plans to extend the average maturity of treasury debt by issuing a higher percentage of longer-term issues.  Given the short-sightedness of most government policies, I'm surprised they don't assume the yield curve will always be steeplyupward sloping and issue nothing longer than 90 day bills.  Extending the average maturity with the current yield curve will increase the deficit.

http://english.capital.gr/news.asp?id=824274

The article linked above doesn't reference it, but I believe I heard or read somewhere the plan is to extend the average maturity from 5 to 6 years via heavier issuance of 7, 10 and 30 year bonds.

Carina's picture

This upcoming week the Treasury will announce exactly how many 3's, 10's and 30's will be auctioned the week of Nov 9.

Anonymous's picture

Eyes will be upon the November 12th auction of 30's.

How many Treasury bills, notes and bonds the market will bear is becoming the inverse argument of 'how many angels can be fit upon the head of a pin?'. Still, when one reads or hears the phrases 'remain liquid' or 'seek liquidity', it is the near-term Treasuries which are, in the main, being referenced.

Hansel's picture

I have money in bills through fidelity's treasury mmf which was closed off to new investors a while ago.  If Zimbabwe Ben wants to keep printing, mortgage defaults continue to increase, and budget deficits never recede, I want a healthy percentage interest to invest in the extremely speculative long end of the Treasury curve.  Raise interest rates enough and I'll think about moving farther out.  I also own gold and am willing to buy more if rates don't move up to what I consider reasonable to compensate for the risks.

Stevm30's picture

What rate would you need to buy 30 years today?

Problem Is's picture

Hansel...

Whatsitgonna take to get you into this brand new 2009 Chrysler New Yorker today?

Hansel's picture

I honestly don't know.  I know it's double digits at least, and when we get there I'll reevaluate.  I'm aware though that our fiscal situation is basically untenable (imo) so I'll just have to see how things progress.

edit: if someone else wants to take a guess, here is the U.S. balance sheet for fiscal 2008.

www.gao.gov/financial/fy2008/08stmt.pdf

The U.S. had $1.6 trillion total revenue, ~$2 trillion in assets, ~$12 trillion in official liabilities, and ~$43 trillion in unfunded liabilities.  Take into account declining tax revenue and larger deficits, and the verdict is ???

HayeksConscience's picture

Is there a rule of thumb for a level of interest payments at which our debt becomes unservicable (I guess this would me measured as a % of tax receipts and not GDP).  When do we look for the house of cards to start teetering in the wind? 

 

RozzertheDropsky's picture

I don't know if there's a rule of thumb, but maybe one way of looking at it is to say when debt service becomes the primary purpose of collecting taxes (in say a late 1970's era prime rate environment and $10 trillion of debt averaging 15% interest), then it would seem the taxpaying citizenry would become disenchanted with the whole idea of a federal government and would allow repudiation. The question would then become whether the oligarchs would consider it better business for them to "honor" the debt and remain in international business with foreigners and sell us out by giving the country away, thus fulfilling Lenin's prediction about capitalism and the sale of rope. 

Anonymous's picture

I think the idea of measuring in terms of tax receipts is a good one; however, Mr. Gov likes GDP because it counts spending expansion as growth. I think that Q12010 is expendable (maybe even a push down) to the Administration as long as GDP Q1 < Q2 < Q3. Tax receipts are going to be really problematic for next year ... the only ones to pay taxes will be GS, JPM, BAC, et all brokers and government employees. In terms of tax receipts, next year may prove unserviceable.

Bear's picture

I think the idea of measuring in terms of tax receipts is a good one; however, Mr. Gov likes GDP because it counts spending expansion as growth. I think that Q12010 is expendable (maybe even a push down) to the Administration as long as GDP Q1 < Q2 < Q3. Tax receipts are going to be really problematic for next year ... the only ones to pay taxes will be GS, JPM, BAC, et all brokers and government employees. In terms of tax receipts, next year may prove unserviceable.

Anonymous's picture

You have a bit of a problem with the numbers!

The interest numbers are for the fiscal year ended Sept 30 of each year. The 383 billion is the FINAL 2009 number!

http://www.treasurydirect.gov/govt/reports/ir/ir_expense.htm

Tyler Durden's picture

run rated to calendar

Anonymous's picture

No. The $383 billion is for 12 months (Oct 08 - Sept 09) and all the other annual numbers in your chart are for 12 months ended Sept 30.

You can't run rate 15 months to a different end date than the other 12 month periods.

The rest of the piece though is excellent. There is a huge time bomb out there with the continuous need to roll over so much short term debt. All we need is one failed auction, just one.

Anonymous's picture

TD: We are at $383 bn through October, and December is a big pauout month, usually around $100 billion, which is projected, as well as $20 billion for November.

From the Treasury Direct link:

September $15,526,354,159.31
August $27,374,808,039.95
July $19,812,486,187.83
June $106,612,310,280.24
May $20,600,287,859.26
April $24,846,792,476.82
March $19,829,502,464.91
February $10,311,076,391.59
January $ 3,132,139,257.38
December $97,775,030,034.07
November $18,558,733,892.95
October $18,984,305,636.29
Fiscal Year Total $383,363,826,680.60

Available Historical Data Fiscal Year End
2008 $451,154,049,950.63
2007 $429,977,998,108.20
2006 $405,872,109,315.83
2005 $352,350,252,507.90

Anonymous's picture

What problem..? Foreign holdings of T-bills are precisely for Reserve purposes and Balance of Trade purposes. If Interest is earned on them, well and good: If not, little matter.
That the value of Foreign reserves is being depleted by Treasury issuance, inflation in M3, is what is of concern to the trade balance. But there doesn't need to be a selling of foreign-held T-paper, there just needs to be a diversification of reserves. T-bills can be rolled over quite happily.
It's the sort of assets which are desired in the current decade that's turning things a bit south; namely petro-resources. So far we're looking at a dollar devaluation, but a change in reserve currency allocation implies that many nations may seek to strengthen their asset base.
A contrarian play- Libya.

Anonymous's picture

The Zombie banks will be the new conduit for the unending treasury suppply ala Japan were they havent exported a bond in 15 years, and the shape of their curve has been the same for 10....

Anonymous's picture

The Government will likely mandate 20% of all retirement funds be invested in 30 Year Treasuries at some point. Its your duty as a citizen to buy bonds.

Jim B's picture

+1

I am sure this would be mandated for our own good!

trillion_dollar_deficit's picture

The ~$3 trillion to roll over next year seems utterly unreal. Couple questions:

1) How does that figure compare to the next biggest roll over year?

2) When QE 2.0 is announced would a mere $300 billion be sufficient to keep the market happy? Or could we be looking at something like $500-750 billion?

Bear's picture

I don't think we will see QE2 until market goes down 20% ... they have to keep something in reserve to prop up the market ... if they do it earlier than this the Repubs will scream and scream, but if Congressmen feel threatened by down market it will slide by as if this is the right thing to do. Zombie Administration + Zombie Congress + GS + (-FED) = 1/2 Trillion (sounds better now that public now about trillions)

Anonymous's picture

Remember, if $300 billion in Treasuries are due to be redeemed in 2009, there is either $300 Billion in new cash to put somewhere (anyone got an idea of what to invest it), or $300 Billion of new Treasury demand. My bet is on rollover.

The question is what is the average interest rate being redeemed and what is the rate that the Fed will set/Treasury will pay?

It looks like interest as a % of total debt is going down fairly significantly. This is why the Fed needs to withdraw the excess liquidity once the economy heats up. Once interest rates are essentially zero, you can turn the portfolio once while reducing interest as a % of principal. There are a lot of high interest Treasury history still to be retired.

Jim B's picture

AH.... Only a temporary condition.  Are you going to let the Gov use your money for FREEE? or essentially free given the current rates.  Eventually the market will figure out

- Given the ridiculous deficits, the dollar will go down.

- Deflation across the economy will not occur (real estate aside), the FED will print whatever it takes

- Inflation will arrive eventually because it is the only way to deal with the huge deficits (will be unofficial GOV policy)

- Our current economy is a bit unsound (service economy).  The new programs in the pipeline will not help (Ocare, Cap and Kill, and possibly stimulus 3.0  4.0 (or will be 5.0, I can't even keep track).

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