Previewing Tomorrow's Floating Rate Treasury Launch

Tyler Durden's picture

When we last discussed what now appears certain to be a TBAC announcement tomorrow that Floating Rate Treasurys are about to be launched by the US during the Treasury, we cautioned, using an analysis by the IMF's Singh, that "the US Treasury may be telegraphing to the world that it, or far more importantly, the TBAC, is quietly preparing for a surge in interest rates." We then continued that "What is also obvious is that if the TBAC is quietly shifting the market into preparation mode for "a steady (or rocky) rise in rates from near zero to a "neutral" fed funds rate of 400 bps and a "normal" 5 percent yield on 2 year U.S. Treasuries" as the IMF warns, then all hell is about to break loose in stocks, as by now everyone is aware that without the Fed liquidity, and not just liquidity, but "flow" or constant injection of liquidity, as opposed to merely "stock", VIX will explode, equities will implode, and all hell would break loose. It is not yet certain if the TBAC will proceed with implementing FRNs. Although, since the proposal came from the TBAC, read Goldman and JPM, and what Goldman and JPM want, they get, it is almost certain that in about a month, concurrent with the next quarterly refunding, America will slowly but surely proceed with adopting Floaters." Judging by the amount of press coverage this topic has received in the past week, the advent of FRNs is now a given. What is unclear is why: our take is that this is simply a move to make Treasurys more palatable to investors, simply to avoid capital losses when rates finally resume their inevitable surge higher. The flipside of course, is that the guaranteed coupon payments in a rising rate environment means that more cash will leave the Treasury to cover interest. It is this corollary to increasing demand that has made the "father" of Treasury floaters warn on Bloomberg that now is the worst possible time to being sales of FRN Treasurys.

From Bloomberg:

Almost two decades after advising the U.S. to sell floating-rate notes to lower debt expenses, Campbell Harvey says starting to issue the securities now would be a costly mistake for American taxpayers.


In an environment with historically low interest rates, the Treasury should avoid floating-rate debt as it introduces risk,” Harvey, a finance professor at Duke University’s Fuqua School of Business in Durham, North Carolina, said in a telephone interview April 17. “If interest rates go up, it puts the government at risk because they will need to come up with a lot of extra revenue to pay the interest bill.”

To those who were confused by our explanation for the logic of FRNs, here it is again:

Floaters would increase the link between the government’s interest payments and movements in short-term rates, which have been near zero since 2008. The Treasury has sought to lock in borrowing costs for longer and cut the amount of outstanding short-term bills, which ballooned to $2.1 trillion during the financial crisis that began almost five years ago.


The securities may appeal to investors wary that four years of Federal Reserve monetary stimulus will spark inflation and cause the central bank to lift short-term rates even though policy makers have promised to keep borrowing costs near zero through 2014.

In other words, the cash outflow risk is increasing to taxpayers, but all that matters is that Primary Dealers, who as we noted recently are already loaded to the gills with short-term paper, will get some protection if and when short-term rates spiral out of control. Which is why thise whole process was initiatied and will be consummated under the auspices of the TBAC, which is basically Goldman and JPMorgan as we explained many times in the past, or in other words, the two main banks who buy USTs and then promptly flip them in the custodial repo market, allowing smooth and seamless bond auctions to take place in perpetuity, yet also getting cash for the paper within minutes of an auction's end.

It is precisely the bonds that PDs have an overabundance of, those with a 1-3 year maturity, that will be most impacted by this transition:

The floaters will probably have a maturity of one- to three-years initially, according to Bank of America Corp. The coupon would reset periodically based on a short-term benchmark, such as the federal funds effective rate, or the Depository Trust & Clearing Corp.’s Treasury overnight repurchase agreement index. Payments to investors would be similar to those of U.S. Treasury bills, while also increasing along with rates.

Some thoughts via Bank of America:

“The Treasury can, with floaters, lock in debt at a short- term rate without having to come back in the market as often as they have to do for bills,” said Priya Misra, head of U.S. rates strategy at Bank of America in New York, in an April 10 interview. Rising rates “are a risk to the Treasury relative to them issuing long-term coupon bonds, but not relative to them issuing Treasury bills,” she said.


Misra favors initial monthly auctions of about $10 billion in floaters, which may displace some bills. The Treasury sells bills with maturities of four, 13, 26 and 52 weeks.


Floaters will appeal to the $2.6 trillion U.S. money market mutual fund industry, TBAC said in a Feb. 1 presentation to the Treasury. Boston-based Fidelity Investments, the largest manager of money-market mutual funds, and Federated Investors Inc., of Pittsburgh, the third-biggest, supported the new debt during a public comment period that ended earlier this month.

The WSJ chimes in:

Analysts say the Treasury is betting that issuing floating-rate notes can help Uncle Sam pay a bill-like yield, but lock up the money it borrowed for a longer period than a few months.


"The Treasury is trying to avoid issuing more Treasury bills," said Joseph Abate, money-market strategist at Barclays. "And this would be potentially one way of doing that."


Still, the program would take some time to have a meaningful impact. Bank of America Merrill Lynch analysts estimate that the Treasury would start any floating-rate program by issuing around $10 billion in floating- rate notes each month. That compares to the roughly $400 billion in bills the Treasury issues each month.


Analysts expect demand for such short-term, high-quality floating-rate debt to be strong. New regulations that came in the wake of the financial crisis pushed financial institutions to hold more safe assets such as Treasurys, and floating-rate notes might be more attractive when interest rates eventually begin to rise.

Naturally, what this will do is push even more end holdings into the short-end of the curve, with the Fed now virtually all alone in possession of long-duration paper. However, unlike before when a dramatic spike up in rates would lead to principal wipe outs for short-maturity holders, for now they will at least get the protection of getting cash coupons based on a Libor margin, in the process stimulating demand.

Or that is at least the superficial explanation.

What is far more likely the true end goal, is for the TBAC to telegraph to the market that since FRNs are being adopted, that higher rates are coming, and in turn to push even more fixed income holders out of bonds of any variety (recall that FRNs will still have very modest cash returns at least initially), and into risky assets. Because the ponzi, like any true shark, has to keep swimming - in other words, the flow has to continue, much to the chagrin of all those who say that stock is what matters.

Will they succeed? It is unclear - what is clear is that the central planning regime has so far succeeded in only one thing - keeping stocks high by diluting paper, and creating a creaking damn wall of potential future inflation if and when the money in mattresses and savings accounts is released. As for any benefits for the real economy? None. But that would naturally entail deleveraging, or as it is called in Europe, austerity. And that is one thing America simply can not afford. Which is why it will instead plough on with the FRN plan, and we are absolutely certain that tomorrow we will get the introduction of the first new Treasury security since TIPS came on the scene back in 1997.

Bottom line: in order to appease the banks, the Treasury is once again taking on even more interest rate risk, where the ultimate loser will be the US taxpayer if and when rates rise, while the winners will the banks and the Primary Dealers. However since the US taxpaying public is already neck deep in its contingent commitments to keeping the banking sector viable that in the grand scheme of things allowing FRNs to be auctioned off is probably not all that much of an incremental sunk cost.

Finally, here is the Floater pitch book presented at the February Refunding announcement by the TBAC:


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Blindweb's picture


Paul Krugman doing a Q&A on Reddit at 4:45 (ET)

Get questions ready early, he's going to get 1000s of questions

vast-dom's picture

Let's just call this what it is: SELECTIVE PREFERENTIAL INTEREST RATES. 


Changing the rules of the game on the fly, util there are no rules to play the game by = end of game(s).


Sometimes I ruminate, and pardon my econ degree, that interest rates should be determined by market forces such as banks competing for deposits and savers shopping said banks -- would a banking collusive oligopoly be preferential to a Fed rigged scam? But then i snap out of my reverie and realize that there really are no such things as free markets in the financial sector.....i guess black market bartering is the only semblance of capitalism left and for that the gov can bust you or will one day.....

Badabing's picture

Bundle them in with other fixed rate investment bonds and give them a snappy name like guaranteed investment bonds (GIBs)  and make it mandatory that all 401ks invest 50% in GIBs now you can milk the sheep. And make goat cheese MMMMMMMMMMMM nice!

vmromk's picture

An increase in Interest Rates ???? Tyler are you high ?

Interest rates rise in any meaningful way, the entire Ponzi (with all its actors) come crashing down.

Never gonna happen.


BTW, FUCK Bernanke.


Dead Canary's picture

Even the PTB knows the Ponzi must die someday. This is an attempt at damage control. (For the TBTF anyway)

P.S. Nice avatar Badabing.

P.P.S  Is this a floater or an unflushable?

DaveyJones's picture

float like a butterfly - sting like a bee

valley chick's picture

and oil is "floating" up today...

derek_vineyard's picture

negative real rates are here 4ever

DavidC's picture

Does that make today's stock market move a shake out of shorts then?


CPL's picture

You honestly think there are people trading don't you?


If you didn't live through the 80's and early 90's, picture 60% interest on credit cards.  17-23% on home loans.  40% for small business loans.  28% for corporate loans. 


You couldn't give away a car or a home.  It was an awful decade.

DavidC's picture

I take it as a compliment that you think I'm younger than I am! I remember (as a child!) the miner's strike here in the UK, the three day week, television and electricity being switched off after 10 p.m. etc.

Interestingly, given your 'awful decade' with interest rates somewhat higher then they are now, the stock market did well, so I might be arguing against myself a bit. I will say, however, that we were still in the middle of a massive credit boom and financial deregulation through those years, and we have now reached the end of a credit (debt) supercycle - yes, I could be wrong.

Again, I could be wrong given SkyNet, but all longer term Dow charts are showing overbought. To me to at least looking to trade short as no figures (other than today's mediocre figures) seem to indicate things are getting any better, and certainly NOTHING has changed since 2008 as far as debt, leverage of the banks etc is concerned.


CPL's picture

Old farts circle, welcome aboard!  Power Twins Activate!!!

If the powers that be raise the rates.  The governments will go broke before the people.

Personally I don't see the fed floating the rate as anything but the opportunity for the new skynet bond program that launched last week to keep rates low.  "because the markets say so".  I would say it's a puppet show, but that would provide at least a minimal level of entertainment.  Bot's running bot's running bot's being fed information from co-opted media is what we got unfortunately.  In Engineering we call that three points of failure with no back up plan.

Cognitive Dissonance's picture

Considering the tsunami of paper fiat that has, and will be, released everything better be able to float.

Go long water wings.

The Alarmist's picture

"Your seat cushion can also be used as a flotation device."

Yeah, right.

CrimsonAvenger's picture

Exactly. And the pilot will turn into a dolphin and pull the plane to shore.

Sudden Debt's picture

I don't know who junked you but that's funny :)
Thumbs up :)

The Alarmist's picture

Well, if this is the worst time to do it, then that is the most likely course of action.

Sudden Debt's picture

Does it all actually still matter anymore?

The Alarmist's picture

In fact it does, for the entertainment value.

Sudden Debt's picture

Yeah but it's becomming like "these are the days of our lives episode 450934"

Kilgore Trout's picture

And episode 3 was so predictable and dumb.

youngman's picture

I think its a ploy to get the average investor back into the market......right now the FED is the only buyer now...above and below the table buying...front door and back door buying...if they  can get the individual investor back in......more money to steal...oh oh..I mean it looks better that other people are buying...

Badabing's picture

The adjustable rate mortgage of treasury bills. Hook you with a nice% and then pull the rug out.

hedgeless_horseman's picture



The inevitable Yield Rally cometh...finally?

uncle_vito's picture

Deflation camp here also.  Like Japan the last 20 years.

mirac's picture

I am still in the deflation camp.  Bonds will do what bonds will do.  The rise in yield may have nothing to do with inflation, but supply in a collapsing economy.

Sophist Economicus's picture

I'm not in the deflation camp on all things, but I don't think these boys are stupid.   They have been in control of the interest rate and I'm thinking that they believe that they can continue to suppress the rate while offering the suckers the illusion of safety should rates rise.    Look at the TIPS, tell me those that bought those things are feeling like their purchasing power has been maintained WITH a margin of safety.

This is 2012 fellas, there are NO bond vigilantes - just PDs scarfing basis points off the FED

RoadKill's picture

TIPS are such a great scam. The guy paying the interest gets to tell you how much inflation was.

Forget the fact that the inflation rate is 10% and the government is telling you its 2%. THEY TAX YOU ON THE NOMINAL INTEREST not THE REAL RATE. So at best you get 65% inflation protection and are gauranteed to loose money on a REAL basis

l1b3rty's picture

Man, why do we take it like this?

Dr. Richard Head's picture

Other than holding tangible assets and not playing their paper game (where non-playing ability exists), what choices do we exactly have in the matter?

tarsubil's picture

Yeah, me too. Can we get on an email list or something?

DavidC's picture

Tyler (or anyone with greater knowledge than I have),
Surely, notwithstanding your comments above, the Fed will be in serious trouble if rates move up, given its over 50 to 1 leverage? Or is the intention to release some of the pressure on longer term rates by raising shorter term rates relatively speaking?


Hansel's picture

The Fed doesn't mark to market; they hold to maturity.  They won't be booking losses.

hedgeless_horseman's picture



Would you like something to drink to help wash down that very large roll?

bankonzhongguo's picture

It just goes to show what a sham this whole economy is.

The banks want more money, so they order it.

'nuff said.

Meanwhile, is your family income improving in this coming inflationary environment?

Gloomy's picture


youngman's picture

But food is down..???? so is gold and silver....more or less.....I am writing today off as a holiday day....Asia and Europe are closed....

FullFaithAndCretin's picture

I want to see if the threat (promise) of higher interest rates has an impact on the gold price.

Dan The Man's picture

Read some martin a armstrong.  His thoughts on the rate spike of 1980 are great.  If memory serves he called the bull after the PM's crashed.  Get out, get in maybe?


the not so mighty maximiza's picture

I don't know, if the rates go up the US goverment is screwed, they will not be able to even keep up with payments on the interest let alone principle.    THEY CANNOT ALLOW THIS TO HAPPEN.

NotApplicable's picture

I'm thinking that this is the patented "double head-fake" maneuver. As Hegel observed, it's not the action, but the reaction that counts.

So, are they merely providing the appearance of revenue from interest bearing paper, in order to paper over the facade one last time, while they fleece everyone who falls for it?

As always, time will tell.

the not so mighty maximiza's picture

It would have to be at least a 22% interest rate to compensate for inflation.   You are right, time will tell.

walküre's picture


They cannot allow this to happen? I'm not so sure that they don't actually want this to happen. But alas, they can try and raise rates. This is not the Eighties when another military Superpower allowed the US to elevate itself above everyone else.

Who out there believes that the US has what it takes to maintain its federal and state budgets, make interest payments and increase their debt? Who still believes that this Nirvana can be sustained for one more week, month, year? Sure, anyone can fix their accounting to make it look feasible and print their own currency to sustain their own personal Nirvana, right?

One part of Europe is already BK. The other part is not sure if they want to support their BK cousins or just toss the idea of a common currency. Neither outcome will be smooth and palatable as far as markets are concerned. Could be that the coming Euro crash will lift the Dollar, which would bring rates down rather than up.

Jake88's picture

Not to sound like a paranoid conspiracy theorist, but could that be the primary objective.  Is the intent to put us in the same position as Greece taking direct orders from the banksters robbing us of any remnants of national sovereignty.

Hallpass2012's picture

floaters, are you effffffing serious? bahhaha I love my precious metals lol

resurger's picture

How much DV01 will be then, 3 bn?