Treasury Draws Negative Return For First Time Ever
Investors betting against deflation.
BY Caroline Cakebread | October 25, 2010
(Reuters) The Treasury sold $10 billion of five-year Treasury Inflation Protected Securities at a negative yield for the first time at a U.S. debt auction as investors bet the Federal Reserve will be successful in halting deflation.
The securities drew a yield of negative 0.55 percent, the same as the average forecast in a Bloomberg News survey of 7 of the Federal Reserve’s 18 primary dealers. The sale was a reopening of an $11 billion offering in April. Conventional Treasuries rallied amid speculation about the amount of debt the Fed may purchase to spur the economy in a strategy called quantitative easing.
“It signals people’s expectation of the Fed being able to create some inflation with the QE program,” said Alex Li, an interest-rate strategist in New York at Deutsche Bank AG, one of 18 primary dealers required to bid at Treasury auctions. “With nominal rates so low, in order have high TIPS breakevens you’ve got to have negative real yields on the five-year.”
Holders of TIPS receive an adjustment to the principal value of their securities equal to the change in the consumer price index, in addition to a fixed rate of interest that is smaller than the interest paid to a holder of conventional debt. The difference between is known as the breakeven rate.
The fixed payment on five-year TIPS, known by traders as the real yield, has been pushed below zero because the increase in the consumer price index is greater than the yield on regular five-year U.S. notes, which has fallen along with other Treasury yields as investors sought the relative safety of U.S. government debt.
The U.S. can only sell debt at a negative yield on inflation-linked debt, according to McKayla Barden, a spokeswoman at the Bureau of the Public Debt. Conventional fixed-coupon Treasuries of a given maturity could be sold at price above face value with a zero percent coupon if yields in the market on that maturity were negative. The government began selling inflation-protected debt in 1997.
At today’s auction, the bid-to-cover ratio, which gauges demand by comparing total bids with the amount of securities offered, was 2.84. The average at the last 12 sales was 2.38. Indirect bidders, a class of investors that includes foreign central banks, purchased 39.4 percent of the notes today. At the April sale, they bought 23.1 percent, the lowest in the history of the securities.
The last five-year TIPS auction, on April 26, drew a yield of 0.55 percent, which was the lowest on record. The bid-to- cover ratio was 3.15.
Today’s sale was the first of four note offerings this week totaling $109 billion. The U.S. also will auction $35 billion in two-year notes, $35 billion of five-year securities and $29 billion in seven-year debt in sales that begin tomorrow.
U.S. debt gained even after data showed sales of existing homes rose 10 percent last month, more than forecast, the National Association of Realtors said today in Washington. Purchases increased to a 4.53 million annual rate from 4.12 million in August, the data showed. Economists in a Bloomberg News survey forecast sales would rise to a 4.3 million pace.
“Whenever we see a bit of a selloff in the Treasury market it is getting met, and will continue to get met, by renewed buying until we get clarification with regards to the size and frequency of the Fed’s asset purchases,” said Christian Cooper, senior rates trader in New York at the primary dealer Jefferies & Co.
The dollar dropped to a 15-year low versus the yen after a pledge by the Group of 20 nations Oct. 23 to avoid “competitive devaluation” failed to dispel speculation the Fed will debase the greenback by announcing more bond purchases in a strategy called quantitative easing.
Treasuries earlier extended gains as Fed Chairman Ben S. Bernanke said the central bank and other regulators are “intensively” examining financial firms’ home-foreclosure practices and expect preliminary findings next month. The central bank is “concerned about reported irregularities,” he said at a housing conference in Arlington, Virginia.
Third-quarter gross domestic product was up 2 percent on an annual basis, according to a Bloomberg News survey before the Commerce Department reports the data Oct. 29. GDP rose 1.7 percent in the second quarter and 3.7 percent in the first. Another report this week will show new-home purchases were close to the record low, according to a separate survey.
The Fed may begin its bond purchases with $500 billion over six months, according to a report from Goldman Sachs Group Inc. economists led by Jan Hatzius in New York. The company, a primary dealer, said policy makers will announce the plan after their November meeting.
“It’s worth being neutral on Treasuries into next week’s close,” William O’Donnell, managing director at primary dealer Royal Bank of Scotland Group Plc in Stamford, Connecticut, and the analyst John Briggs wrote in a research note to clients. “It’s simply too hard to say how investor sentiment and positioning will influence the reaction in bond prices to the big news items next week.”