(Fortune) -- This week alone, the Treasury Department is selling $82 billion in new debt to investors. If that sounds like a lot, it is. The Treasury has been issuing many times more debt than ever before to fund the massive Obama Administration spending programs.
The amount of supply hitting the market has caused handwringing over whether investor demand can keep up and continue to fund America's staggering deficits, with this week's debt auctions billed as a test of appetite for U.S. government debt.
But it's a test the government has already passed. Here's how and why:
Demand is setting records
Demand for Treasuries simply isn't going away. Rumors that foreign buyers will abandon U.S. debt are being greatly exaggerated. It's true that last month's $118 billion two-year note auction was lackluster, but analysts say that's due to spring holidays and overseas bookkeeping. "Buyers in Asia sat on the sidelines, because it was their fiscal year end," said Rich Bryant, head of Treasury trading at MF Global.
Now that we're back to routine, American banks and insurance companies are rejoining foreign investors and pension plans in the upcoming Treasury auctions. Thanks to upcoming financial reform, firms are preparing to hold more capital in reserve, so they'll invest in liquid, triple-A rated securities. That's the definition of a Treasury. Since those same firms can borrow money at nearly 0%, a 4% yield on 10-year notes is basically a risk-free moneymaker.
Treasuries are such a good deal right now that the bid-to-cover ratio for the last few months has run between two-to-one and three-to-one. That means there have been two or three bids submitted for every one accepted. This Monday's $8 billion Treasury Inflation-Protected Securities or TIPS auction had a record ratio of over 3.4, and Tuesday's $40 billion three-year note auction had a ratio of 3:1. That's strong demand for such a big volume week.
Dollars-denominated investments rule the globe
Investors who need dollar-denominated assets don't have a lot of options right now. Debt from the United States is practically the only game for now. The exotic instruments that brought about our financial crisis are frozen up or simply not being offered right now. With asset-backed securities and CDOs having fallen away, the only dollar-denominated debt issuance of institutional quality are Treasury notes and bills.
Real recovery is a long way off
Third, the Federal Reserve is making noises about raising interest rates to fight inflation, but few analysts believe such a move will happen in the next few months. Officials may say the economy is improving, but that doesn't mean they believe it's time to start cooling it off by raising rates, either. Bond traders tell Fortune that they don't see a rate hike until the end of the year, or the beginning of 2011.
Even if inflation happens, there's a lot of real-world slack in manufacturing and jobs that needs to tighten before the Fed could deploy interest rate hikes as an inflation-fighting tool. At the most recent Fed meeting, policymakers said that the recovery could slow in the coming months, which makes a hike even more in doubt.
Some economists are predicting a double dip recession, which would mean a rate hike might not come until the end of this year, possibly not until 2011. Investors usually turn to equities when they are worried about inflation eating up bond returns, but that's not yet happening. Instead, the inflation-protected TIPS auction drew a record level of interest; since investors are still loathe to take on any kind of risk while the macroeconomic scene plays itself out.
It's valid to ask whether America's $82 billion of borrowing this week is a condition to be pleased with. Though this week's auction pales in comparison to the $123 billion record week of Treasury auctions held in October 2009, just two years ago, the country didn't come close to borrowing that much in an entire month.
But right now the U.S. government is still the most desirable and valuable game in town for pension plans, insurance companies, banks, and even foreign governments. Until securitizations come back and a strong recovery takes hold of this country, expect months of strong auctions ahead, with investors scooping up billions more dollars of our national debt.
|Bank of America Corp...||16.09||0.08||0.50%|
|General Electric Co||25.98||-0.03||-0.12%|
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