Recently, the sharp rise in international gold prices has attracted the attention of investors from almost all over the world. Behind the frenzied buying in the gold market, another safe-haven asset, U.S. Treasury bonds, presents a completely different scene of depression.
A series of weak performance at U.S. Treasury auctions has stoked investor concerns that the market will struggle to absorb the massive issuance of Treasury debt.
In the past week, after weak demand for the US$39 billion 10-year Treasury bond auction, the bond market sell-off triggered by higher-than-expected U.S. CPI in March intensified. Investors also showed little interest in the three-year and 30-year U.S. Treasury auctions.
Behind the growing caution among bond market investors is the growing belief that U.S. inflation is not yet fully under control and that the Federal Reserve will keep interest rates at multi-decade highs in the coming months or even years. The yield on the 10-year U.S. Treasury note, known as the “anchor of global asset pricing” and the benchmark for pricing borrowing rates from mortgages to corporate loans, closed at around 4.5% last week, close to the 5% mark hit in October last year. high level.
At the same time, the U.S. government is also preparing to sell another $386 billion in bonds in May – Wall Street expects that no matter who wins the November presidential election, the U.S. government will continue to issue large amounts of bonds. While few worry that these bond auctions will fail outright, many have begun to worry that an oversupply of Treasury bonds will shake up other areas of the U.S. market, raise government borrowing costs and ultimately harm the economy.
James St. Aubin, chief investment officer of Sierra Mutual Funds, said, “The market narrative has changed a lot. The CPI report has changed everyone’s view on the direction of the Fed’s policy.”
Is it becoming increasingly difficult to maintain the huge amount of U.S. debt issuance?
The U.S. government sells U.S. Treasury bonds, known as “the safest bonds in the world,” to investors and traders through regular auctions to fund its daily operations. Issuance of U.S. Treasury bonds has been surging in the past few years since the onset of the COVID-19 pandemic.
In the first three months of 2024, the U.S. government sold a total of $7.2 trillion in Treasury securities, the largest quarterly total on record—even more than the second quarter of 2020 at the beginning of the pandemic, when the government was rushing to provide stimulus for the new coronavirus. Program provides funding. This figure was also recorded on the basis of the record issuance of US$23 trillion in national debt last year. After repaying maturing bonds, the US government raised a total of US$2.4 trillion in additional funds last year.
As the overall size of the U.S. Treasury market expands, so does the size of the auction. Poor demand in a series of auctions at the end of last year had already unsettled many investors, and the U.S. Treasury eased some investors’ concerns by shifting to a model dominated by short-term debt issuance to finance the U.S. deficit. This worked to a certain extent, because the Federal Reserve also signaled a shift to loose monetary policy: the hope that an interest rate cut would come soon has reassured investors about the Treasury Department’s strategy.
But now, those hopes are fading, with the Treasury expected to unveil its third-quarter borrowing plan at the end of April.
The nonpartisan Congressional Budget Office predicts that the deficit will increase from 5.6% to 6.1% of U.S. gross domestic product over the next decade. By then, the size of bonds held by the public will increase from US$28 trillion to US$48 trillion, much higher than the US$13 trillion 10 years ago.
Wall Street does not expect the U.S. Treasury to increase the size of its auctions of longer-dated debt and bonds until next year. But the government must also refinance most of its bonds. A record $8.9 trillion in U.S. Treasuries are due to mature in 2024, accounting for about one-third of outstanding U.S. debt, according to Torsten Slok, chief economist at Apollo Global Management.
Investors are also watching to see how tax season receipts can boost U.S. coffers in the coming weeks. “We’ve been losing liquidity as individuals and businesses take out money to pay taxes,” said Thomas Tzitzouris, director of fixed income research at Strategas. “We’re in an airbag that’s allowing the bond market to float more freely and yields to rise.”
Where does the future go?
Of course, some people still believe that the U.S. bond market has not yet completely reached the end of its rope.
For example, the Federal Reserve may provide “support.” Minutes of the Fed’s March meeting released last week showed that policymakers were seeking to slow the pace of reducing the large amount of bonds the Fed has accumulated to boost the economy. Since mid-2022, the Fed has allowed up to $60 billion in Treasury securities and $35 billion in agency mortgage-backed securities (MBS) to mature each month in an effort to shrink its balance sheet. Some investment banks have predicted that the Fed will halve the QT rate of Treasury bonds to $30 billion per month.
As the Fed prepares to slow down QT and even end the program altogether at some point in the future, investors may only need to absorb a smaller share of the net share of U.S. Treasuries in the future. That could support bond prices and remove some of the upward pressure on yields.
Another factor that may be expected to support U.S. Treasuries is that global investors have a lot of savings but few viable investment options. The eurozone and Japan both run current account surpluses, meaning they receive more money from trade than they spend on imports. U.S. Treasuries provide them with a safe place to park their cash and earn a yield of over 4%. It also provides one of the easiest ways to invest dollar-denominated earnings from trade with the United States.
Currently, both the euro and the yen are losing value against the dollar, in part because the Bank of Japan is keeping interest rates low and investors expect the European Central Bank to cut rates sharply soon. That could increase demand for U.S. bonds – where yields remain high relative to other bond yields around the world.
This has led many bond market bulls to believe that as long as inflation continues to move toward the Fed’s 2% target, U.S. Treasury yields will remain below 5%.
But at the same time, some still worry that the influx of newly issued government bonds will exacerbate an already volatile market, especially if inflation remains sticky. Following last Wednesday’s CPI report and a weak Treasury auction, the 10-year Treasury yield posted its largest one-day rise since 2022, jumping about 20 basis points.
“If we continue to see hot inflation data, that will keep a lot of people on the sidelines,” said Sierra’s St. Aubin.
