Investors are bracing for an estimated $1 trillion deluge of Treasury issuance to start flowing later this week and continue in the coming months as part of the latest debt-ceiling resolution.
Heavy supply of fresh Treasury debt will refill government coffers run low by another protracted fight in Washington over the U.S. borrowing limit. But it won’t necessarily derail stocks, or the broader market, according to strategists.
A CreditSights team found that the S&P 500 index
SPX,
rose almost 5% over a six-month stretch in 2016 and 2018 (see chart), when a wave of Treasury supply hit the market.
“Our key takeaway is that a large amount of T-bill issuance is not necessarily a reason for a broad risk off shift across markets on its own,” a team led by Winnie Cisar, global head of strategy, wrote in a Wednesday client note. Bills are Treasury debt that mature in four to 52 weeks.
“In our view, broad market concerns about T-bill issuance are overblown,” Cisar’s team said, adding that the “upswing in supply,” by itself, isn’t enough for the team to change its constructive view on corporate credit.
Credit markets provide a key source of liquidity to major corporations, but also households and landlords though the issuance of bonds that price at a premium to Treasury yields. The Federal Reserve’s sharp pace of rate hikes has pushed yields on Treasury securities and the broader bond market to some of their highest levels outside of major crises.
Investors have been worried about the impact of sharply higher rates on the economy and on markets broadly. Focus is on whether the Fed will pause or skip another rate hike at its June 13-14 policy meeting, to give more time for its prior 500 basis points of rate increases more time to sink in.
See: A Fed skip? A pause? Even so, investors aren’t likely out of the woods.
Let the deluge begin!
The Treasury Department on Wednesday said it plans to increase its cash balance by about $400 billion in June, including through heavy short-term Treasury bill issuance.
That was slightly below the $550 billion Treasury target expected by Barclays interest-rate strategist Joseph Abate.
“However, the Treasury expects the balance to return to a level ‘consistent’ with its normal cash management policy by end-September. We interpret this to mean that the September 30 balance will be about $650bn or around a week’s expected cash outflows.” Abate wrote, in a Wednesday client note.
To that end, the Treasury plans to kick off a series of six-week Treasury bill auctions starting on Thursday. “The decision to concentrate issuance at the very front end of the bill curve acknowledges money-fund demand and recognizes the effect that restocking its cash balance could have on bank reserves,” Abate said.
He expects “perhaps all” of the $400 billion “cash balance restocking” of T-bill issuance to be snapped up users of the Fed’s reverse repo facility, which has been popular with money-market funds.
The bottom line is, “as long as U.S. Treasury securities are regarded as risk-free securities, there is always going to be demand for T-bills,” said Lawrence Gillum, chief fixed-income strategists at LPL Financial, in emailed comments.
“In our view, there is always going to be an abundance of liquidity in the market that can be used to absorb the glut of issuance coming to market in the next few quarters without a disruption to prices or liquidity.”
See: Money-market funds own only 15% of the Treasury bill market, but that could change dramatically once Congress passes a debt ceiling deal
Stocks closed mixed on Wednesday, with the Dow Jones Industrial Average
DJIA,
up 0.3%, the S&P 500 index
SPX,
down 0.4% and the Nasdaq Composite Index
COMP,
ending 1.3% lower, a day after closing at its highest level in 14 months.
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