The Rising Influence of Rising Affluence

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'Eye-popping' $1 trillion third-quarter borrowing need from U.S. Treasury raises risk of buyers' fatigue

https://www.morningstar.com/news/marketwatch/20230801371/eye-popping-1-trillion-third-quarter-borrowing-need-from-us-treasury-raises-risk-of-buyers-fatigue

For now, the $1 trillion estimate, the largest ever for the July-September period, has analysts concluding that the U.S. is facing a deteriorating fiscal deficit outlook and continuing pressure to borrow. At stake for the broader fixed-income market is whether the presence of large ongoing auctions over the coming quarter and beyond will lead to a prolonged period where demand from potential buyers might begin to dry up, Treasury yields could edge higher, and the government-debt market returns to some form of illiquidity. "You can make the argument that since 2020, with the onset of Covid, Treasury issuances have been met with reasonably good demand," said Thomas Simons, an economist at Jefferies (JEF). "But as we go forward and further away from that period of time, it's hard to see where that same flow of dollars can come from. We may be looking at recent history and drawing too much of a conclusion that this borrowing need will be easily met."Simons said in a phone interview Tuesday that "the risk is that you don't get continued demand from foreign or domestic buyers of fixed income." The result could be "six to nine months where the market is fatigued by bigger auction sizes, Treasurys become more and more difficult to trade, there's a grind higher in yields, and there may be issues with liquidity where markets may not be so deep."

In a Tuesday note title "Treasury tsunami," rates strategists at Barclays said "Treasury's latest financing estimates point to a worsening fiscal profile" and "the fiscal picture has worsened significantly since last year." They point to the likelihood of "a sharp increase in the supply of notes and bonds over the coming quarters," and cautioned investors against expecting "a typical end-of-cycle bond market rally." "We have noted that the Treasury will soon need to increase auction sizes meaningfully across the curve, potentially to levels beyond the COVID peak, and that the rates market was too complacent. But based on the Treasury's latest financing estimates, released earlier this week, we may have been too conservative," strategists Anshul Pradhan and Andres Mok wrote. "We would not be surprised if net issuance of notes/bonds to investors were to be close to $2 trillion" for the 2024 calendar year. As of Tuesday, investors appeared to be less focused on the Treasury's borrowing needs than on signs of continued strength in the U.S. labor market, which raises the prospect of higher-for-longer interest rates.One- through 30-year Treasury yields ended higher, with the rate on the long bond finishing at an almost nine-month high. Meanwhile, the three major U.S. stock indexes closed mostly lower.According to Simons, who the most likely buyers will be at Treasury's upcoming auctions will depend on where the department decides to focus its issuances. If the focus is on bills, then money-market mutual funds could "move some cash over," he said. And if it's on long-duration coupons, it would be "real money" players such as insurers, pension funds, hedge funds and bond funds -- though much will rely on inflows from clients "before demand would pick up."