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For the first time in a while, bond traders are fretting over the U.S. government’s yawning fiscal deficits.
Investors had been bracing for a deluge of new debt issuance in anticipation that the fiscal stimulus measures, healthcare spending, and hit to local and state budgets, resulting from the coronavirus pandemic, would require the Treasury Department to find buyers for trillions of government debt.
But few anticipated the extent to which the Treasury wants to aggressively lock in low long-term borrowing costs, if only because the government had looked past previous calls to take advantage of depressed yields.
“The surprise element of the Treasury’s issuance plan is not in its sheer size – the $3 trillion of fiscal stimulus is now common knowledge,” said Gaurav Saroliya, director of macro strategy for Oxford Economics, in a note. “It really lies in a more aggressive shift to longer maturities.”
He suggested an issuance surge was a potential catalyst for a “bond-tantrum type bear-steepening” scenario as longer-dated debt came under pressure, and yields surged.
After the Treasury announced Wednesday its inaugural auction for a 20-year bond would hit $20 billion, larger than many Wall Street broker-dealers had forecast, long-term government bond yields rose.
The 30-year bond yield TMUBMUSD30Y, 1.328% climbed 8.2 basis points on Wednesday, marking its biggest daily jump since in around seven weeks. At last check, the long bond’s yield was trading at 1.355%.
Primary dealers, the designated middlemen of the bond-market, may struggle to trade bonds if the market dislocations and volatility seen in March occur again. More debt issuance could take up valuable space on the balance sheets of primary dealers, compromising their ability to buy and sell securities to keep markets ticking.
The latest minutes of a meeting between the Treasury Department and the Treasury Borrowing Advisory Committee, a group of Wall Street firms and banks advising the government on how to fund itself, showed that a few members were worried that continuing liquidity issues plaguing the 30-year bond market could make it difficult to ramp up longer-dated issuance quickly.
Yet even if bond yields climb to accommodate the increased supply, few analysts were willing to bet on the bond-market breaking its 40-year bull run altogether. Uncertainty around how countries will ease back on lockdown measures imposed to combat the coronavirus pandemic and return to normal business has provided a steady appetite for haven assets.
“The outright rate impact by contrast is hard to capture as rates can rally on any bad news,” said Ralph Axel, an interest-rate strategist at BofA Global Research.
Moreover, the Federal Reserve’s willingness to tamp down on any dislocations in the Treasurys market since the pandemic began has assured investors that it would look to prevent a runaway climb in bond yields.
“The Fed never set a size for the total QE program. If they feel there’s a given choke point, they will come in hard,” said Tom Graff, head of fixed income at Brown Advisory, in an interview.
In markets, the S&P 500 SPX, +1.48% and Dow Jones Industrial Average DJIA, +1.36% were on track to book gains on Wednesday, while bonds were also rallying, too. The 10-year Treasury note yield TMUBMUSD10Y, 0.637% fell 6.4 basis points to 0.649%.
