While traditionally a snoozer, this morning's Treasury's refunding announcement was closely watched for details on how the US Treasury's plans to fund its soaring budget deficit in the coming quarters, shortly after it announced it had sold a near record $488BN in debt in the last quarter. Specifically, bond traders were looking at how much upcoming auctions would increase by, and whether the Treasury would also introduce a 2 Month bill auction as some strategists had expected.
Well, the Treasury did all that and more, revealing that it would sell $31BN in 3Y notes on May 8, a $5BN increase vs the $26BN sold last quarter; additionally, the 10Y refunding auction on May 9 will also increase by $1BN to $25BN vs $24BN last quarter, and a similar increase for the 30Y auction, which would increase to $17BN on May 10 vs $16BN last quarter.
That was just the beginning: among the other debt-busting details revealed today were the following
- Treasury to introduce two-month bill later this year
- Keeps TIPs auctions unchanged, evaluates new five- year TIPs sale
- 2-, 3-year note auctions to rise by $1 bln per month
- Boosts 5-, 7-, 10-, 30-year debt auctions by $1b
- Floating-rate note auctions boosted by $1 bln
In total, these adjustments will result in an additional $27 billion of new issuance for the upcoming quarter. The good news for bond bulls is that the nominal coupon and FRN auction size increases are smaller than the total increases of $42 billion announced in January 2018 for the months of February through April 2018.
Some more details on rising auctions:
Based on our current forecast, Treasury is announcing additional modest increases to nominal coupon and FRN auction sizes over the upcoming quarter. Over the next three months, Treasury anticipates increasing the sizes of the 2- and 3-year note auctions by $1 billion per month. As a result, the size of 2- and 3-year note auctions will each increase by $3 billion by the end of July. In addition, Treasury will increase the auction size of the next 2-year FRN auction by $1 billion in May. Finally, Treasury will increase auction sizes by $1 billion for each of the next 5-, 7-, and 10-year notes and the 30-year bond auctions in May. All changes are applicable to subsequent new issues and reopenings.
Meanwhile, the Treasury notes that T-Bill supply, which many said was the driver behind the Libor-OIS surge, will moderate in the coming months:
Aggregate bill supply, which peaked in late March in response to elevated borrowing needs, including seasonal factors and Treasury’s efforts to rebuild cash balances consistent with our stated cash balance policy, is expected to decrease modestly over the remainder of the fiscal year, barring any substantial, unexpected changes in financing needs.
The Treasury summarizes that the "balance of Treasury financing requirements will be met with the weekly bill auctions, cash management bills, the monthly note and bond auctions, the May 10-year Treasury Inflation-Protected Securities (TIPS) reopening auction, the June 30-year TIPS reopening auction, the July 10-year TIPS auction, and the regular monthly 2-year Floating Rate Note (FRN) auctions."
Fast forwarding to the key development, the introduction of the 2-Month Bill. Here are the details:
Treasury intends to introduce a new 2-month bill later this calendar year. Treasury has had extensive discussions about the benefits of a 2-month bill offering with a variety of market participants, including the Treasury Borrowing Advisory Committee (TBAC). Our analysis suggests that this new product will meet the needs of many investors, while also enhancing Treasury cash management, reducing operational risks, and helping us in our mission to fund the government at the least cost over time.
In the coming months, Treasury will further study operational details related to offering the 2-month bill for settlement on a date different from the traditional Thursday settlement date for Treasury bills, such as Tuesday. Treasury will explore alternative ways to enhance liquidity of the 2-month bill, if it is offered on a different settlement date, such as moving the settlement date of an existing bill tenor so that it aligns with the settlement date of the 2-month bill.
We wonder if the next blow out in 3M USD Libor, which JPM recently predicted would reach as high as 2.90% will be blamed on the 2M Bill.
* * *
Separately, the Treasury Borrowing Advisory Committee said at its May 1 meeting that a 2 Month Treasury bill could be introduced to fill government funding gap “based on evidence for strong short-demand,” according to the meeting minutes.
As Bloomberg notes, the TBAC agreed the amount of net bill issuance should increase given the CBO’s projections for increased borrowing needs “over the next several years.” It also said that a further study was warranted to assess a Tuesday settlement cycle to reduce congestion an increase “operational resiliency”
Reinforcing the need for a 2-month bill, the TBAC said this introduction would allow for smaller auction sizes in other tenors, “allowing for greater flexibility in funding future projected financing gaps.” Of course, it would also mean greater cumulative Bill issuance, and even more flattening pressure.
An analysis was presented at meeting that showed the persistence of a “bill issuance premium,” which tends to be tthe greatest at the short-end of the curve, “thereby supporting the idea of increasing issuance in that sector”
Academic research previously present to TBAC suggested that Treasury should consider issuing more bills given the existence of a T-bill premium. This premium seems to be especially large at the front-end of the bill curve, suggesting there may be unmet investor demand at these tenors. The premium is estimated by comparing actual historical T-Bill yields to a fitted yield curve calculated from off-the-run USTs.
The committee agreed recent increases in broader money market rates due to confluence of factors, including but not limited to bill issuance, and also remarked that restoring cash buffer is a prudent policy objective.
The TBAC's conclusion:
- Observed congestion around the current auction cycle creates capacity and potential operational risk.
- This committee has previously recommended 25% to 33% of the financing gap to be funded with T-Bills. This is projected to significantly increase T-Bill auction sizes.
- Heavy settlement volumes on Thursday has a negative impact on funding markets and increases Treasury’s concentration of funding risk.
- Introducing a 2m point at a new settlement date can alleviate both problems – reducing supply per issue and per day.
- TBAC recommends introducing an 8 week bill to settle on Tuesdays.
- TBAC further recommends moving the 4 week bill settlement to Tuesdays as well, as a way to further reduce settlement concentration and increase liquidity in the 8 week bill.
- 13-, 26- and 52-week bills should remain on the Thursday cycle.
- This will increase the bill sector to 52 cusips from the current 44.
- There is sufficient liquidity in extremely short e