US Treasury Doubles Bond Buybacks, Leading to Sharp Drop in Yields
US Treasury Buyback Announcement and Market Impact
LONDON, Aug 19 (Reuters) - U.S. long-dated Treasury yields fell sharply on Wednesday from around their highest level in 19 years, in a move that followed the U.S. Treasury announcing it would double the size of liquidity support buyback operations for longer-dated bonds.
Thirty-year U.S. bond yields fell almost 10 basis points (bps) to 5.188% before bouncing to trade at 5.208%.
The U.S. Treasury Department said on Wednesday it would double the size of liquidity support buyback operations for longer-dated nominal coupon securities from $2 billion to at least $4 billion per operation.
The change, which will apply to the 10-year to 20-year sector and the 20-year to 30-year sector, will be effective Sept. 9 through Nov. 4, it said in a statement.
Stocks were higher after the move, with the Nasdaq composite rising 0.4%, and the dollar was lower, with the dollar index down 0.7% to 98.95.
Expert Commentary on Treasury Buybacks
Ryan Swift, Chief US Bond Strategist, BCA Research, Montreal, Quebec
"There are two dynamics at play that explain the market’s reaction to this morning’s Treasury announcement.
Signaling Effect and Market Sensitivity
"The first is a generic signaling effect. The data does not indicate that rising long-maturity yields were driven by a deterioration of liquidity, so this move shows that the Treasury department is sensitive to the increase in yields and is willing to take steps to try to mitigate it.
Deficit Financing and Market Constraints
"The second dynamic is more of a continuation of a trend that’s been going on for a while where the Treasury is trying as much as possible to finance the deficit by increasing bill issuance and keeping coupon issuance stable. Mechanically, this buyback announcement is equivalent to further shifting the deficit financing burden to the front-end of the curve.
"The market will be the ultimate constraint on how far the Treasury can shift its issuance away from long-dated coupons and into T-bills. Already, the spread between the 3-month T-bill rate and 3-month OIS is getting pretty wide. If that trend continues then the Treasury will have to shift some of the financing burden back into coupons. I think it’s likely this will happen by early next year.
Investment Implications and Treasury Tools
"The big investment implication is that the Treasury’s ability to suppress long-dated yields using this method of shifting issuance to the front end is necessarily limited by T-bill/OIS spreads at the front end of the curve. I therefore see these measures as only moving bond yields temporarily.
"The Treasury’s toolbox is limited to changing the maturity structure of the debt. So, all it can really do is change auction sizes and buyback amounts. If it does anything too extreme, then the market will push back and force them to reverse course.
"Of course, the Fed has an unlimited capacity to buy as many Treasury securities as it wants of any maturity. But the trend at the Fed seems to be moving toward shrinking its balance sheet rather than expanding it."
Joseph Purtell, Senior VP, Portfolio Manager and Rates Trader, Neuberger Berman, Chicago
“We have always sort of suspected that this Treasury in particular, that they were going to be more responsive to funding conditions than prior Treasury departments.
Short-Term Impact and Supply/Demand Mismatch
“For us, in thinking about the context around this, is an extra $2 billion per buyback really worth a full 9 nine basis points, relative to supply/demand mismatch that got us into this mess in the first place? No, but they have other tools; if push came to shove, they could use other tools to push long yields lower.”
“It’s going to help today, it will be helpful in the very short term today as the market fully appreciates that the Treasury has some sort of soft line in the sand here for Treasury yields. But it doesn’t address the glaring supply issue. Deficits show no reason to go down. On the demand side, a lot of these preferences for long-term debt tend to be narrative driven.”
Structural Fiscal Issues
"There are structural fiscal issues that haven’t been addressed for a very long time. The more interesting battle will be addressing longer-term issues, and who will be there to underwrite that debt.”
Michael Green, Chief Strategist, Simplify Asset Management, Philadelphia
Market Reactions and Fed Policy
"This should send the US$ lower and gold higher WITHOUT a meaningful increase in inflation expectations. Note the forward inflation swap above (5y5INFSW in orange) has ticked lower on Day 1.
"The next step in this process requires Fed Chairman Kevin Warsh to do the right thing and cut rates at the next Fed meeting. This will steepen the curve and should start a bull steepener, which will catch macro accounts in the bear steepener asleep—the steepening will offset their losses in long-end bear positions until they are trapped.
Long-End Rally and Mortgage Market Effects
"In turn, the steepening and long-end rally will begin to release duration from the mortgage market, compressing elevated mortgage spreads. Index funds will buy in proportion to market cap, not notional, raising the bid for long-end bonds. A positive cycle can commence that compresses artificially inflated real-rates to the benefit of the economy and the detriment of the rentier class.
"I’ve emphasized that long bonds and, in particular, inflation-protected long bonds were the neglected asset class. Secretary Bessent just told you supply is going to shrink of the most convex components of that asset class."
Michael Lorizio, Head of U.S. Rates and Mortgage Trading, Manulife Investment Management, Boston
Liquidity and Demand in the Treasury Curve
“I think it goes to show a pretty strong acknowledgement from the administration that there's an inconsistent amount of demand, especially in off-the-run securities in the very back end of the Treasury curve, and this is consistent with some of the advice that they had received from the Treasury Borrowing Advisory Committee in the past that liquidity operations in the very back end of the curve had room to be incre
