The 3rd Quarter Interest Rate Test

The 2nd Quarter Interest Rate Correction

The following monthly chart of the 10-year U.S. Treasury bond (SPTL) reveals that the 2nd quarter decline in interest rates was really just a correction in an ongoing, longer term move higher:

USTY10.RT_Barchart_Interactive_Chart_07_10_2021.png

Many investors have been scratching their heads over this move lower in yields given Consumer Price Index (CPI) inflation is running 5% and oil prices have continued to move higher. The picture becomes clear when you look at the U.S. Treasury market supply & demand fundamentals.

There are six factors at play here that explain the 2nd quarter decline in longer term interest rates.

  1. The U.S. Treasury sold a large amount of bonds in March above and beyond what was already required to cover the structural budget deficit—roughly $342 billion by my estimate. This explains the peak in the 10-year bond yield in mid-March. The Treasury got a lot of additional needed borrowing out of the way before the 2nd quarter.

  2. The U.S. Treasury exited the 1st quarter with $1.1 billion in its bank account at the Federal Reserve (Treasury General Account). On June 30th it was $852 billion. The Treasury thus had $250 billion of additional funds from drawing down this account.

  3. U.S. Commercial banks continued their heavy buying in the 2nd quarter to the tune of $301 billion.

  4. Foreigners started buying again in April (+$42 billion) after being net sellers in March (-$71 billion). Foreigners have not been net buyers of Treasuries since July 2020 so this is an interesting development. May and June data is not out yet, but I expect that we are going to see further upticks in foreign buying.

  5. The U.S. Government still has a lot of spending to do to fund the commitments made in recent spending bills and this means that there is still a lot of borrowing to do—$2.3 billion at the end of May by my estimates.

  6. The Federal Reserve continues to buy $80 billion of U.S. Treasuries per month.

I estimate that the Treasury only had to sell $141 billion in net new Treasuries during the 2nd Quarter. When you run the numbers, you can see that there were simply a lot more buyers than sellers. This rosy scenario ends in the 3rd quarter. A test is coming.

1 2 3
View single page >> |

The information presented in the True Vine Letter is general in nature and designed for do-it-yourself and professional investors. It does not have regard to the investment objectives, financial ...

more
How did you like this article? Let us know so we can better customize your reading experience.

Comments

Leave a comment to automatically be entered into our contest to win a free Echo Show.