What Does The "Treasury Demand Curve" Tell Us About Treasury Demand?

Tyler Durden's picture

Now that moral hazard has been adopted everywhere, and the fate of the entire western world is determined by the successful issuance of hundreds of billions of dollars each and every month (we have gotten to the Maginot line where even a hint of a failed US auction would immediately blow up the global capital markets), it is prudent to take a detailed look into a topic that few have covered previously, namely what does the auction demand curve imply. We refer to the distribution of the Low-Mid-High yield break points in each and every treasury auction and whether they can provide some addition insight into the demand picture behind US sovereign debt.

We present the interesting thoughts of Goldman's Michael Vaknin and Anna Stupnytska on this little discussed topic:

Bond Auctions: Shaping the Demand Curve

In this Focus piece we take a closer look at auction data in the US Treasury market and suggest a dimension that is frequently overlooked by market participants—the shape of the auction demand curve. Our empirical investigation suggests that for 10-yr and 30-yr US Treasury auctions, this information is useful for gauging market sentiment and has some predictive power for bond returns in the days following the tender. For the 30-yr sector, in particular, the shape of the demand curve appears to have superior information over other commonly watched metrics.


US Treasury auctions have been closely monitored by investors as a way of gauging the market’s ability to digest additional supply. All else equal, a lower-than-expected auction yield and/or a higher-than-expected bid-to-
cover ratio are seen as encouraging signs, and are often associated with a rally in the secondary market. The
opposite occurs when auctions reveal a higher yield than that prevailing before the tender (a ‘tail’) and/or low
demand relative to the auction size. Here we focus on a particular auction dimension that is frequently overlooked by market participants—the shape of the auction demand curve.

 We find that the shape of the auction demand curve forUS Treasuries is a useful indicator of market sentiment, particularly at the 30-yr maturity. A steep demand curve in 30-yr auctions is an indication that bidders are not constructive on market direction (they require higher yields/a bigger price discount to absorb incremental quantities). In these instances, we find that the scope for a sentiment shift following the auction is higher.

Conversely, a flatter demand curve at 30-yr auctions indicates a more constructive attitude in the bidding process, which tends to expose the market to the risk of a sell-off in the trading days following the auction. The slope metric has some predictive ability for bond returns, as the chart below indicates. As for 10-yr sector, the auction demand curve is important as well, although here it is the curvature, rather than the slope, that matters.

It is important to stress here that ‘price concessions’ resulting from unusually heavy supply often take place ahead of auctions. In previous work, we have shown that the effect of heavier bond supply on yields manifests itself mostly through a relative ‘cheapening’ against corresponding maturity benchmark rates, such as swaps and OIS. The market-clearing level of longer-dated yields is primarily a function of macro factors and risk sentiment. Last month, we  illustrated this point through the experience of Japan during 2002-03. At the time, swap spreads went negative, on the back of higher supply, and bond yields rallied as inflation declined.

Characterising the Auction Demand Curve

We define the auction demand curve as a mapping between yields and the cumulative quantity demanded (bid) up to this yield. Put differently, the demand curve is a set of all possible pairs of yields (or prices) and demanded quantities—pretty much like any other demand curve.

In practice, Treasury auction results reveal three points on this curve—the low yield, median yield and high yield, corresponding to the first 5% of the auction, half of the auction and the full auction size. The diagram below illustrates this concept.

Using these three pairs, we can define the slope of the demand curve as:

Slope = (yield100%-yield5%)/(tender100%-tender5%)

In the same way, we can compute the upper and the lower slopes of the curve, which can then be used to
calculate the curvature:

Curvature= [Lower slope]/[Upper slope]

Two observations arise from this basic characterisation:

  • Auction demand curves tend to be steeper at higher maturities. This pattern, however, disappears when adjusting for the level of yields (see the top left chart).
  • The curvature of the demand curve tends to be greater at shorter maturities (with the exception of the 3-yr tenor). In other words, the steepness of the curve tends to diminish faster for lower maturities (see the top right chart).

Curves Help Predict Future Yield Movements

The slope and curvature of the demand curve contain interesting information, particularly for longer-dated maturities. Our focus is on the 10-yr and 30-yr maturities.

In order to assess the predictive ability of demand characteristics during the days following auctions, it is important to control for the macro impact on yields during this period. To this end, we focus on the residual from a linear regression of 10-yr and 30-yr maturity bonds on the 2-yr T-Note (and a constant). This residual can be loosely considered as the ‘macro-free’ component in the 10-yr and 30-yr tenors.

We now look at the predictive ability of the curve to yields after the auction. We also compare it to the predictive power of the standard auction statistics.

The one important caveat here is that the size of the sample is comparatively small as regular monthly 30-yr auctions only started in May 2009 (12 observations). The results are summarised as follows:

  • A flatter 30-yr auction demand curve is typically associated with an underperformance of the 30-yr sector at all horizons considered. Indeed, the correlation between the slope and yield performance after the auction is fairly high—0.41, 0.59 and 0.32 (see the table below). The predictive ability of the slope in 10-yr auctions is less significant.
  • The curvature is uncorrelated with yield changes at the 30-yr sector, but very much so at 10-yr sector. A closer examination shows that the curve is typically very concave when the low yield (the yield that fills the first 5% of the auction) is unusually depressed. This typically happens when clients ask dealers to guarantee purchases in the auction. In response, dealers submit very low bids. Indeed, ‘guaranteed delivery’ is more common at the 10-yr sector than at the 30-yr one.
  • The ‘high-yield-vs-1pm’ is also found to be predictive for the 10-yr sector. The higher the high yield is relative to the pre-auction (1pm) yield (i.e., the auction results in a ‘tail’), the higher the probability that the 10-yr yield will rally in the following days (again, controlling for macro-related movements).
  • The ‘bid-to-cover ratio’ is found to be irrelevant for post-auction yield performance, both for the 10-yr and for the 30-yr tenors.
  • Lastly, the table above provides the historical correlation between curve statistics and the standard auction statistics. While the slope of the demand curve does have common information with the auction parameters that are widely watched, the correlation with these parameters is far from perfect. This suggests that curve statistics provide additional

information relative to those already embedded in standard auction parameters.

Shaping the Demand Curve

We find that for the 10-yr and 30-yr maturities the auction demand curve contains useful information about yield movements in the days following the auction. Moreover, other standard auction statistics, including the high-yield-vs-1-pm and the bid-to-cover ratio, do not correlate well with the demand curve, suggesting that the latter contains additional information beyond what is usually monitored by market participants.

Further investigation into what else might be extracted from these demand curve characteristics would be useful for understanding the auction dynamics. It will also be interesting to watch how the correlations evolve over time as more observations are added.


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tecno242's picture

But how is a failed auction going to happen if Ben is always picking up the slack.

He can continue to do that until everyone realized he's the only buyer and starts dumping $'s cause of it.

Cognitive Dissonance's picture

This is a bold (some would say insane) experiment in human nature and the collective mind. Can essentially the entire world wish itself to wealth and happiness. Since the fiat currency is based solely upon the collective faith and belief of those using the fiat currency, the only thing that matters is the faith and belief of the collective.

The true test comes when the next level of stress enters the system. Rest assured, it is coming. You can not deviate this far from the mean without people recognizing that you have deviated this far from the mean. 

It's a binary event, all or nothing, on or off.

tecno242's picture

I don't think it's an experiment, so much as his only choice.  Lest his banker overlords lose their shit.

That being his only choice, the collective must be led to believe that everything is hunky dory.

thus, the greatest phantom stock market rally ever.

Cognitive Dissonance's picture

You are misinterpreting the word "experiment" to include the word "voluntary" or "choice". The Nazi doctors experimented on the prisoners. The prisoners and often the doctors lower down the food chain had no choice. It was still an experiment.

tecno242's picture

But they chose to do those experiments.

Bernanke doesn't have a choice.  And if he chose differently, he would simply be removed as they shred him in public for whatever they choose to dig up.  And put someone else in his place that won't be so discriminating of their plan.

merehuman's picture

i call bullshit on the "choice

He could choose to be forth right and honest, let chips fall where they may!

Our leaders arent in this for us or the good of the country. That factoid is patently obvious for all who have the eyes to see. Unemployed are seeing better . Poverty really clears the eyes when not used to it.

China knows whats coming and has encouraged the purchase of gold and silver amongst their people. With that in mind i expect China to be the strongest currency within 5 years. Perhaps much , much sooner.

Everything looks different when seen from the other fellas perspective.

BTW Cognitive Dissonance, I appreciate your addition to our quest to mature spiritually. Our entire lives are given over to earning, getting , having and desiring more. In the process the one thing most valuable to all of us is the short time we have on this planet, in these bodies.

Consequently little time is spent in Being, Loving, imagining,contemplating.

I would like to see a shool that

honestly teaches  to think..teaches the various levels of love  .. teaches how to focus our attention,  teaches self awareness and the neccessities of life .

Self control emotionally and mentally should be a required course.

Its such a waste to be ignorant of the more wonderful aspects of being while focused on the material


knukles's picture

Only once in my some 35+ years toils do I remember a "failed" auction which occurred back in the '70's when the "crowding out" miasma was being bantered about.

Sufficient bids had not been received by the Fed and as such, they simply asked the Primary Dealer community to "rebid".  The auction was covered, Street was long and life went on.

Remember, a requirement of Primary Dealer status is that they are Required to bid on all auctions. 
Moreover, there seem to be (seem, being the operative term) numerous additional vehicles through which additional bid, as necessary, occur.

Ain't gonna have a filed Treasury Auction. 
'Nuff said.

Postal's picture

"This is not the failed auction you are looking for."

"This is not the failed auction we are looking for."

"This Ponzi auction is free to continue."

"This Ponzi auction is free to continue."

Mark Beck's picture

Primary participation is based on a traditional look at creating a fair bid, not to continually step in and be a majority buyer. I do not believe the Primaries are buying that much. The $30B or so slack they had from the beginning of the year to put towards buys should almost be done.

The FED has to prevent failed auctions through some creative avenues for as long as they can without announcing another long term T buy program. But there is a limit to the creative powers at the FRBNY.

The real problem is in the amount of revenue coming in. April net receipts must out perform last year or the Treasury will have real problems, especially when the President asks why the ARRA spending has not been on schedule.

I think it is entirely possible that the Treasury has started a program to delay outflows for descretionary spending. The hope is that the recovery will aid the cash flow problem. Even so, I feel the FED will have to act sooner rather than later.

Mark Beck

plocequ1's picture

The Feds reaction: Who gives a fuck? Apple stock is above $250. It's all good. Rally on

jkruffin's picture

LOL  Today's 7r auction   93% alloted at high  3.21 High yield and direct bidders on vacation.  The FED is being told,  raise rates or else.

jkruffin's picture

Direct Bids took down only $3.9B of the total 32B auction   OOOPPSSS!!


The Indirect Bids took down a whopping $19B


Glad I canceled my order this morning as the FED goosed the bonds again.

Strider's picture

As I believe Plato once said " you cant eat pictures of food, no nutrition there".

You can take a guitar to water but you cant tuna fish

Bernanke: "look at all the pretty pictures, hey anyone want a Fresca?"

Sudden Debt's picture

I somehow don't think plato would have said that :)

pictures? Fresco's, mosaics and carvings... try to keep you teeth eating those

Tuna fish? Plato = mediteranian sea = no tuna

Guitar and tune a fish? That sounds pretty english to me my friend. And the english language at that time didn't even exist. Romans didn't even land in England, Vikings wheren't around by then and English was born out of the mix of their language.


Commander Cody's picture

Answer:  Its demanding.

Invisible Hand's picture

Man, I get atomic and nuclear physics. Always have.  Spent my whole working with it.

However, while I appreciate that this is an good article, I don't have enough of the terminology down to really grasp what is being said.

Kinda like trying to explain what the K-edge is good for to a finance guy.

Thanks for trying to educate me and keeping me informed, ZH.

I tell everyone (that I think can handle the truth) to read you.

Keep it coming and I'll keep reading (and trying to get it).

Buck Johnson's picture

That is correct that Primary dealers are required to bid, that is the bidders everyone see.  The ones that they give the wink and nod to. But inlfation and Hyperinflation is coming and it's going to be massive (you can see inflation already at the grocery stores).  I believe whats going to break this game is when states have to go to the Fed and demand a bailout for their economy.  What this will do is what the fed has been trying to stop, and that is getting those dollars into the market to buy goods and services.  Most of the bailout money and such has been locked up in bonds and Treasuries (ask yourself why banks have been slow in lending).  When the states get the money they will use it and it will be in the economy.

Grand Supercycle's picture

Previously mentioned EURO buying support has returned...


Pedro's picture

So is this correct:

Direct Bidders:  Primary Dealers-GS, JPM?

Indirect Bidders:  Foreing investors?


Is there a particular % range for these that are standard when auctions occur?