The US Treasury's surprise decision to halt issuance of 30-year debt has brought about a significant...
The US Treasury's surprise decision to halt issuance of 30-year debt has brought about a significant flattening of the yield curve resulting from a narrowing of the spread between 10- and 30-year paper.
The move, which indicates that US Treasury issuance has become an economic stimulus tool for the Federal Reserve, has brought down mortgage rates and the cost of borrowing for corporates.
The announcement caused an initial rally at the longer end of the curve, although many of the gains were quickly given back. The rally was not confined to the 30-year paper, with 10-year debt making significant gains in trading following the announcement.
Eddie Middleton, investment manager, fixed interest at Britannic Asset Management, says: 'We saw the spread between 10- and 30-year bonds move from 80bp to 60bp-65bp. Now that is closer to 55bp. There has been a sharp reaction from the yield curve.' That reaction, he says, was a marked flattening of the curve as the cost of longer duration borrowing fell. But he believes the flattening process still has further to go.
Middleton says the decision to 'suspend' issuance at 30 years duration took the markets by surprise, although the Treasury's' terminology suggests the duration could be resurrected at a later stage should events require it. Britannic, he says, was fairly neutrally weighted across the market and so neither profited nor lost out in the move.
As well as cutting the issuance of new debt at a time when government financing needs are rising, according to Robert V DiClemente of Salomon Smith Barney, the Treasury cast doubt over the near-term future of the buy-back programme. DiClemente warns that there may be no buy-back activity in January, but he believes it could go further than that.
He says: 'While buybacks will continue throughout the current quarter, there will not be any repurchases in January, a strong revenue month. Beyond that, they will be determined on a quarter by quarter basis, contingent on unified surplus or deficit projections and quarterly cashflow assessments.'
'But given the magnitude of this year's budget shortfall, we are even more confident now that buybacks will, for all practical purposes, be suspended following this quarter.'
Indeed, budget predictions for 2001 have been slashed from early optimistic views of a healthy surplus, to a consensus opinion that a deficit will be the final result.
DiClemente believes the suspension of 30-year debt and the buyback policy will not effect the speed at which the total value of outstanding government debt recedes. He says fund managers will be driven towards the shorter end of the duration spectrum, with issuance at that end rising. Two-year note issuance will, he says, be 'racheted higher.' Supply of five and 10-year debt is also set to rise.
Middleton expects issuance at the 30-year level to return, although possibly not for at least two years. He agrees with DiClemente that short-dated issuance will rise. He also expects further flattening of the yield curve as the market continues to digest the new environment for Treasuries, particularly as economic forecasting in the current circumstances remains an inexact science.
30-year paper likely to make a comeback.
Yield curve set to flatten.
Increased short-term issuance.
To promote 'long-term investment'
Switching 'hard and expensive'
Smaller funds still packing a punch
To drive progress