The Federal Reserve controls the front end of the US Treasury (UST) yield curve. The market controls the long end, and the market over the last few months has been worried about supply demand imbalances; rightfully so. My Apologies, you are about to see a lot of charts.
The demand side of the equation has a lot of moving parts. All in all, demand is falling although it is hard to accurately quantify by how much. Some sources of increased demand include European governments as US yields are better than European yields, retail investors and government money market funds as higher yields have attracted inflows into USTs, and institutional investors – specifically pensions and insurance companies.
Source: New Edge Wealth, as of 10/17/2023
Source: New Edge Wealth, as of 10/17/2023
Source: New Edge Wealth, as of 10/17/2023
But we can confidently say that demand is falling to some degree due to large holders moving from buyers to sellers of treasuries over the last year or two. The Federal Reserve is engaged in Quantitative Tightening to reduce the size of their balance sheet. China is diversifying assets away from the US, Japan is selling USTs to help defend its weakening currency due to their yield curve control program, and commercial banks are unloading treasuries as deposit balances saw steep declines.
Source: Board of Governors of the Federal Reserve System, as of 9/30/2023
Source: Bloomberg, as of 8/31/2023
Source: St. Louis Federal Reserve, as of 9/30/2023
To bring this home, the quantity of debt that the government must sell is a lot and will remain a lot. 2023 issuance is well above 2013/2018 periods, and next year the issuance will go higher by another 23%! The growing US fiscal deficit and lack of demand from traditional sources have caused yields on long term USTs to rise significantly since April. Of course, this supply demand imbalance will change; but at what interest rate?
Source: Apollo Global Management, as of 9/30/2023
Sean Dillon, CMT, CFTe
SVP, Investment Strategy
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