IS the 20-year Treasury bond headed for the dustbin of history?
Increasingly, that’s the question being asked in Wall Street’s fixed-income circles about the still-unloved US security that was resurrected in May 2020 after a more than 30-year hiatus. Investor demand remains tepid—despite efforts from the Treasury Department to boost its appeal.
After a protracted campaign for a new maturity to reach more investors, debt managers picked the 20-year over an “ultra long” 50-year or 100-year bond, leaving the 30-year as the longest-maturity offering. In October, it became the highest-yielding Treasury bond, making it the government’s most expensive form of financing—a situation that endures today. While a high-yielding bond may be appealing for long-term money managers, a cheap obligation with scant chance of reducing its discount anytime soon can be toxic for short-term investors and traders.
“Will an end-user base ever develop for the 20-year is an outstanding question,” said Jason Williams, an interest-rate strategist at Citigroup Inc. “There must be a valuation level where Treasury would say ‘why are the taxpayers paying more than they need to?’”
The Treasury Department over the past year has deeply cut the size of its 20-year auctions. Yet last week, a $15 billion sale of new bonds—the smallest yet—still drew weak demand. Meanwhile the 20-year yield, about 3.55 percent Wednesday, remains more than 20 basis points higher than its 30-year counterpart.
On a $15 billion sale, a difference of 20 basis points amounts to $30 million a year in extra debt-servicing cost for the US taxpayer.
There’s ample precedent for shelving securities offerings to lower the government’s cost of funds. The Treasury Department suspended 30-year bond sales from 2001 to 2006. Three-year notes were discontinued in 1998 and reintroduced in 2003. The previous iteration of 20-year bonds lasted from 1981 to 1986, and 20-year inflation-protected Treasuries were sold only from 2004 to 2009.
But the decisions are never taken lightly, said Lou Crandall, chief economist at Wrightson ICAP LLC.
“It’s not just a question of being patient to see if it pans out,” Crandall said. “They want to assure the market that when they introduce the next new product they’re not going to be scared off by a rocky start. That doesn’t mean they’ll keep it forever; it does mean they’ll try everything before they remove it from the auction calendar.”
There’s widespread agreement that Treasury overestimated demand when it rolled out the new security soon after the first wave of the pandemic. When in early 2020 it was preparing to start 20-year bond sales, dealers uniformly predicted the initial sales would be much smaller than the first $20 billion new issue with two $17 billion reopenings. Auction sizes grew from there.
The latest reductions brought new-issue and reopening sizes back down to levels many dealers thought were reasonable from the beginning—$15 billion and $12 billion. That’s why last week’s auction results were alarming.
FURTHER reductions in size run the risk of scaring away frequent traders who prize liquidity. The department paid lip service to that idea on Aug. 3 when it announced the most recent cuts, which were smaller than several dealers had expected. It resisted calls to make larger cuts to the 20-year, it said, “to ensure benchmark liquidity size.” Crandall thinks the solution should be to drop the issue’s second reopening.
“It won’t help with market indigestion with the initial offering, but if it brings the issue back into better alignment, it’ll help with reception of the issue in the long run,” he said.
Some traders have already seen enough.
“If it doesn’t trade well at $27 billion”―the peak size for 20-year new issues, reached in November 2020―“and it doesn’t trade well at $15 billion, it’s not a size issue any more,” said Tony Farren, managing director at Mischler Financial Group.
Treasury officials have said they intend to give it more time to find its audience. The fact that the borrowing need is poised to resume growing makes it unlikely that they would eliminate any financing tools, said Stephen Stanley, chief economist at Amherst Pierpont Securities LLC.
“The ideal scenario would be if borrowing needs fell, maybe they wouldn’t need it, and they could say, ‘Last in, first out,’” Stanley said. “But that doesn’t seem like a plausible scenario. They’re going to need a lot of issuance going forward.” Bloomberg News