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Why demand for 6-month Treasuries was high and supply remained low

Chanderlekha Nayar

Why international tensions offset domestic economic growth (Part 3 of 7)

(Continued from Part 2)

Auction highlights: Mixed results

Last week (March 10 to 14) the U.S. department of commerce auctioned a total of $83 billion short-term Treasury bills, slightly lower than the $85 billion issuance in the previous week. Auctioned every week, Treasury bills (T-bills) are short-term debt obligations issued by the U.S. government. T-bills are issued through a competitive bidding process at a discount to face value. Based on investors’ demand for the bill, discount rates are determined at the auction.

Six-month T-bill

The Treasury’s auction of six-month T-bills (26-week T-bill) took place on Monday, March 10, for an issue size of $23 billion—lower than the previous week’s issuance of $25 billion. At a discount rate of 0.08%—unchanged from the previous week—the bill received strong reception in the primary market. The primary market includes about 20 securities dealers, known as “primary dealers,” who are authorized and obligated to submit competitive tenders at the Treasury auction. However, once the bill is issued, primary dealers can trade their bill in the secondary market—through which individual investors mostly access the Treasury market (TLT). Investors generally quote a lower bid price on T-bills. A lower bid price means investors will get a high discount on the face value. This essentially means investors will have to pay less for the bill at the time of the auction, and at the time of maturity, they’ll receive the full face value of the bond. The difference between the face value and the price paid at auction is the interest earned.

Issuers always like to quote a high ask price so they can close the auction on a low discount rate. If the discount rate is lower, issuers will have less differential money (the difference between the face value and the discount given) to repay at the time of maturity. In the secondary market—commonly referred as the “non-competitive bidding process”—an investor who bids for the lowest yield wins the bid. The lowest yield means the highest price, which is the lowest return for the investor and the lowest cost of debt for the issuer.

Six-month T-bills are generally announced on Thursdays of every week for auction the following Monday and issuance (settlement) the following Thursday. If Monday is a banking holiday, the bills are auctioned on Tuesday. At a bill coverage of 4.97x, demand rose for issuance compared to 4.46x the previous week’s bid-cover ratio. The bid-cover ratio measures the total value of bids received divided by the actual amount of debt sold. A higher ratio implies more demand for the security and vice versa.

13-week and four-week Treasury bills

Three-month and four-week bills were auctioned on the same day, Monday, March 10. Demand, as measured by the bid-cover ratio, remained strong for the four-week bill at 4.11x—compared to 3.93x the previous week. Issuance was unchanged for both three-month and four-week bills at $25 billion and $35 billion, respectively. Demand for the three-month T-bill declined at a 4.76x bid-cover ratio—compared to a 5.02x bid-cover ratio the previous week.

Relevant trading equivalents: Fund flow outlook

Fund flows are considered an essential metric to gauge investor demand. An increase in fund flows essentially means high willingness from investors to invest in the market—thereby improving market liquidity. And if fund flows decrease for the bond market (BND), this means investors are pulling out money from the bond market in anticipation of a rise in Treasury yields or due to other attractive investment opportunities on the back of improving economic conditions.

In conjunction with the three-month Treasury bill interest rate, which remained unchanged last week, prices for ultra-short-term trading equivalents, including the SPDR Barclays 1-3 Month T-bill (BIL), were neutral. The ETF posted a net inflow of $1.48 million last week. The one-month fund flow stood at negative $38.6 million.

The SPDR Barclays 1-3 Month T-bill (BIL) seeks to provide investment results that, before fees and expenses, correspond generally to the price and yield performance of an index that tracks the one-to-three-month sector of the U.S. Treasury bill market.

Other short-term government bond ETF prices that track the performance of the one-to-12-month Treasury market were either neutral or slightly up on account of declined U.S. Treasury rates. The one-month Treasury yield was down 0.005% to 0.117% last week.

The iShares Short Treasury Bond (SHV) ETF price was neutral last week. The ETF, with a gross expense ratio of 0.15%, tracks the performance of the Barclays U.S. Short Treasury Bond Index, with maturity of between one and 12 months. The ETF posted a funds outflow of $51.7 million last week. The one-month fund outflow was $320.6 million.

Another major short-term ETF is the iShares Short Treasury Bond (SHY). The ETF, with a gross expense ratio of 0.15%, seeks investment results that correspond generally to the price and yield performance, before fees and expenses, of the Barclays U.S. 1-3 Year Treasury Bond Index. The ETF posted a fund inflow of $75.8 million last week. One-month fund flows remained negative at $109.7 million. The ETF price increased 0.1% last week as yields declined.

Please read on to the next part of this series to see how the mid-term three-year Treasury note issued on Tuesday of last week performed.

Continue to Part 4

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