Tax Receipts Pare Treasury Sales as International Buyers Flee
By Elizabeth Stanton and Daniel Kruger
The Federal Reserve building
July 16 (Bloomberg) -- Just as international investors are reducing purchases of Treasuries, the U.S. government will be selling fewer of them thanks to no let-up in tax receipts.
The projected 7 percent increase in tax revenue will help the U.S. budget deficit shrink by 17 percent to about $205 billion for the fiscal year ending Sept. 30, the Bush administration said last week. As a result, the Treasury Department sold less securities from January through June than matured, the first time that has happened since 2000.
A drop in supply is good news for a market that in the second quarter lost 0.4 percent when including reinvested interest, the biggest decline in more than a year, as an accelerating economy drew investors away from fixed-income assets, according to New York-based Merrill Lynch & Co.'s U.S. Treasury Master index. In fact, the fiscal outlook is so good that investors and strategists are beginning to handicap which maturities the government may stop selling or even buy back for the first time in five years.
``I love it,'' Michael Cheah, who manages $2 billion in bonds at AIG SunAmerica Asset Management in Jersey City, New Jersey, said of the prospects for even fewer Treasury sales.
Economists at New York-based Citigroup Inc., the biggest U.S. bank, speculated in a report last week that the government might buy back higher-yielding debt to avoid cutting sales of new securities, where the most trading occurs. The highest coupon government security outstanding is a 13.25 percent bond issued in 1984 and maturing in May 2014.
Buyback History
The Treasury hasn't repurchased debt since 2002, when it bought $1.5 billion in government bonds from investors with a weighted average maturity of 22.9 years and yield of 5.76 percent. Treasuries returned 11.6 percent that year, Merrill Lynch's U.S. Treasury Master index show. Returns since then have averaged less than 3.5 percent a year.
At its most recently recent quarterly meeting in May, the 14-member committee of Wall Street officials that advises the Treasury on how to structure its debt discussed the possibility of resurrecting buybacks, according to the minutes.
A member of the Treasury Advisory Borrowing Committee ``noted that Treasury has used buybacks in the past and should be prepared to use this tool in the future should the fiscal outlook rapidly improve,'' the minutes said. The person wasn't identified.
The Treasury discusses financing decisions only at its quarterly press conferences, spokeswoman Jennifer Zuccarelli said.
Cutting Back
Five-year Treasury inflation-protected securities, or TIPS, outperformed other inflation-linked bonds last week on speculation new sales will be curtailed or suspended, said Chris McReynolds, head of TIPS trading at Barclays Capital Inc. in New York, the largest dealer of the securities.
``If there's less issuance, that in and of itself will help the market,'' said Timothy Bitsberger, who in 2004 and 2005 was the assistant secretary for financial markets at the Treasury and was responsible for the return of 30-year bond sales.
The government has reduced the sizes of its auctions of two-, five- and 10-year notes to avoid letting cash pile up for the past two years. Ten-year notes were cut to $21 billion from $23 billion a quarter in 2005. Five-year notes, sold monthly, were reduced to $13 billion from $15 billion. Quarterly three- year note sales were suspended in May.
Monthly two-year note sales shrank to $18 billion this year from $22 billion last year, and Barclays predicts the next monthly sale on July 25 will be pared to $16 billion, the smallest since 2001.
TIPS First
Buybacks ``would probably come after the elimination of five-year TIPS'' and less-frequent 10-year note auctions, though before a switch to quarterly five-year note auctions, Michael Cloherty, head of interest-rate strategy at Banc of America Securities LLC in New York, said in a report last week.
The Concord Coalition, an Arlington, Virginia-based nonpartisan group that advocates a balanced budget, says the deficit will exceed $500 billion by 2013 if tax cuts slated to expire in 2010 are extended and spending increases at its historical rate. The Congressional Budget Office projects budget surpluses beginning in 2012.
``The notion that the Treasury would conduct buybacks when the budget is in deficit and there are net borrowing needs is pretty far-fetched,'' said Stephen Stanley, chief economist at RBS Greenwich Capital in Greenwich, Connecticut.
The deficit as a percentage of gross domestic product narrowed to 1.9 percent in 2006 from 3.5 percent in 2004. In 2000, Bill Clinton's final year as President, the U.S. recorded a budget surplus of 2.4 percent of GDP, the biggest since Harry Truman was President in 1948.
Tax Revenue
Tax revenue will likely increase almost 7 percent this year before slowing to less than half that rate in 2008, the White House's Office of Management and Budget forecast last week.
``There will be no new spending initiative that will blow away the fiscal improvements'' with the next major elections more than a year away, said AIG SunAmerica's Cheah.
The Treasury projects net sales of securities, or gross issuance minus maturing debt, will total $125 billion in fiscal 2007. That would be the least since 2001, when it paid down $97.3 billion of debt. About $4.34 trillion of Treasuries are outstanding.
The drop in supply comes just as international investors, the owners of more than half of all Treasuries, slow their purchases. They bought a net $16.2 billion a month on average in the first four months of this year, compared with $28.2 billion a month in 2005. Figures for May will be released tomorrow.
Fed Study
A 2006 Federal Reserve study by Professors Francis and Veronica Warnock at the University of Virginia in Charlottesville concluded that high demand from foreign investors kept long-term interest rates about 1 percentage points lower than they otherwise would be as the central bank raised borrowing costs.
``What existed before does not exist any longer,'' said Thomas Tucci, head of U.S. government bond trading at RBC Capital Markets in New York, the investment-banking arm of Canada's biggest lender. Foreign investors ``are not in the market the way they used to be.''
The eventual return of deficits is a reason why the government should use buybacks to ensure the Treasury continues to reap the benefit, in the form of a lower cost of borrowing, of being a predictable issuer of new securities, said Thomas Tierney, Citigroup's head of Treasury trading in New York.
About 75 percent to 80 percent of the trading in Treasuries is concentrated in the most recently issued securities, according to Ron Purpora, co-chief executive officer of the North American division of London-based ICAP Plc, the world's biggest broker of trades between banks.
`The whole exercise behind the U.S. Treasury market is predictability of issuance,'' Tierney said. ``Why disrupt the whole schedule only to rebuild it in five years?''
To contact the reporter on this story: Elizabeth Stanton in New York at estanton@bloomberg.net ; Daniel Kruger in New York at dkruger1@bloomberg.net
Last Updated: July 15, 2007 12:34 EDT |
