Treasury Quarterly Refunding Announcement and Update on Ultra-Long Bond

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With healthcare reform sidelined, for the time being, the legislative emphasis has turned to tax reform. However, before tax reform, Congress must do two other things. The debt ceiling must be raised and spending authorization for the new fiscal year beginning October 1 is needed.  

Although Treasury Secretary Mnuchin has called for a clean bill to lift the debt ceiling, Mulvaney, the head of the executive branch’s Office of Management and Budget is urging Congress to demand additional spending cuts.  Most likely the debt ceiling increase will be attached as an amendment to another bill.   A spending authorization bill was passed earlier this year, but it runs out at the end of the fiscal year.  A new one is needed to keep the government open.  It is possible that by the end of September, the issue is not resolved.  Much to their chagrin, the Republican Party would likely pass a “continuing resolution” that allows this year’s spending to be extended into the new year.

More immediately is debt management.   Tomorrow the US Treasury will announce its Q3 refunding plans.  Yesterday, Treasury said it projected borrowing $96 bln in Q3, which is $2 bln less than it had projected in June.   However, it signaled a surge in its borrowing needs for Q4; a whopping $501 bln.

This is a huge amount of supply and appears to reflect the pay back for the extraordinary measures to circumvent the debt ceiling.  Cash balances and bill holdings need to be raised.  It appears to be the largest amount the federal government has sought to borrow in a single quarter since the crisis in Q4 2008.  Moreover, the surge in supply at the same time that we expect the Fed to begin allowing its balance sheet to shrink by not rolling over the full proceeds of maturing issues.  Tomorrow’s refunding announcement may see Secretary Mnuchin give some indication on how the Treasury will address the Fed’s unwinding of QE.

With the quarterly refunding, Mnuchin may update investors of the Treasury’s thinking about an ultra-long bond.  Mnuchin has appeared quite positively disposed to issue a bond with a maturity longer than the current 30-year offering.  The strongest argument is that it would like in the lowest funds costs for American taxpayers.

Wall Street had been lukewarm at best, though an article on Bloomberg, based on interviews with over 20 traders, found somewhat better interest.  From an investor, the point of view, the duration of a 50-year bond, or when the coupon pays back the principle, is about 24 years (at a 3.5% coupon) as opposed to about 20 years for the 30-year bond.

From the debt manager’s vantage point, issuing a sufficient amount of ultra-long bonds could lengthen the average maturity of the US government’s marketable securities.  The average maturity as of the end of June was 71 months, a record length.  At the end of 2008, the average maturity was 49 months.  While there have been some US corporations that have issued long-term bonds, a government issue would serve as a benchmark and could encourage other companies to do the same.

In addition to locking in low rates for longer, there are some other values that the Treasury Department has traditionally sought to express.  Regular and predictable schedule of supply and supportive market depth and liquidity.   Some primary dealers have raised questions about whether a ultra-long bond would meet these other objectives.

There had been some talk of funding some of the infrastructure projects with an ultra-long bond.  This would not necessarily be consistent with a regular and predictable schedule that would be supportive to market depth and liquidity.   To meet most of the objectives, an ultra-long bond needs to be a permanent component of the regular schedule of Treasury offerings.