Recent decreases in yields on Treasury debt have provided a much-needed respite to bond investors. This week, the auctions of 20-year bonds and 10-year Treasury inflation-protected securities will provide valuable insights into whether this relief can be sustained.
The year 2022 ended with yields on 30-year Treasurys at 3.934% on December 30th. However, since then, yields have risen significantly. Weak demand for the debt during previous auctions held in October and earlier this month led to lower prices and consequently higher yields. As a result, bondholders suffered significant losses.
Fortunately, data released last week regarding inflation and the labor market indicated that the Federal Reserve might halt its interest rate hikes. This counteracting trend has driven yields lower this month, with the 30-year yield ending at 4.597% last Friday.
It is worth noting that the outcome of the auctions can impact the stock market. The most recent 30-year auction, which was the worst since early 2010, had a detrimental effect on the S&P 500.
While the decline in yields provides temporary relief, it may be interrupted by the upcoming auctions of $16 billion in 20-year government bonds on Monday and $15 billion in inflation-protected 10-year notes on Tuesday. This year, the market has had to absorb 32% more government debt compared to the previous year up until October. The increased supply has shifted attention towards auctions, as poor results create concerns regarding investors' ability to purchase all the offered debt.
A reliable indicator of auction success is the level of participation from primary dealers who are obliged to purchase any remaining debt that other investors decline. Higher involvement by primary dealers could signify potential issues in the market.
In conclusion, bond investors eagerly await the outcome of the upcoming auctions as they strive to navigate through fluctuating yields and market conditions.
Assessing Sale Performance
One way to evaluate the success of a sale is by comparing the highest yield offered at auction to the yield offered to dealers prior to the event. If the government needs to offer a higher yield at auction, known as a "tail," to attract investors, it suggests weak demand.
Tailing Tendencies in 20-year New Issues
According to BMO strategists Ian Lyngen and Ben Jeffery, there is a notable inclination for 20-year new issues to experience a tail. Out of the fifteen auctions since the bond was reintroduced in May 2020, ten have demonstrated this pattern. However, the risk may be higher during the holiday-shortened week as there could be fewer market participants active ahead of Thanksgiving.
Weak Auction Prospects for 10-year TIPS
For 10-year Treasury Inflation-Protected Securities (TIPS), which benefit from higher inflation, there is also a potential for a weak auction. Recent economic data has indicated a decrease in price pressures.
Balanced Outlook Amidst Potential Fed Rate Cuts
While there are reasons for caution, there is also room for optimism. The expectation of potential interest rate cuts by the Federal Reserve next year may prompt investors to adjust the maturity of their portfolios accordingly.
Current Yield Rates
As of Monday morning, yields on both 30-year and 10-year Treasury bonds were higher, standing at 4.612% and 4.46% respectively. Andrew Brenner, the head of international fixed income at NatAlliance Securities, noted that the supply in the market during this holiday-shortened week has led to some market indigestion, causing a retreat in long-term bond yields.
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