The debt world turned upside down: the U.S. cuts the size of its bond sales in May

05/17/2010 3:16 pm EST


Jim Jubak

Founder and Editor,

The Euro Zone’s pain is the U.S. Treasury’s gain.

The yield in for the 10-year U.S. Treasury note is down below 3.5% again thanks to bond buyer’s flight to safety in the euro debt crisis. The drop takes the yield back to where it was in December 2009.

Ordinarily, the United States would be looking at rising interest rates as its economy crawled off a bottom and bond buyers began to anticipate interest rate increases from the Federal Reserve as it took its extra low recession fighting interest rates up toward neutral. Some bond investors would even start to avoid the category completely because of fears that an economic recovery would usher in worries about inflation and higher interest rates from the Fed to head off that possibility.

That’s exactly what was happening in the early part of the year.

But that’s not what’s happening now.

Economists and big bond investors who were looking for the Federal Reserve to begin raising interest rates at the end of 2010 are pushing out their predictions into 2011.

This all produces the kind of virtuous cycle that can drive interests even lower from here.

Bond investors who were avoiding U.S. Treasuries because they feared that rising interest rates would leave them taking losses as bond prices fell (remember the price of a bond goes down when interest rates increase) now don’t have that worry deterring them from buying Treasuries. They might even pick up a small capital gain if bond yields retreat some more. So far in 2010 Treasuries have returned 3.5% including reinvested interest, according to Bloomberg News.

Add in a shift in risk so that the euro is now the currency that looks like it will be worth less tomorrow instead of the dollar, and you’re got good reasons for buying Treasuries.

And the U.S. Treasury gave safety-seeking yield investors another reason to look at paper issued in Washington. While the headlines from Europe scream about slow growth and worries that governments there won’t be able to cut their budget deficits, the United States announced on May 5 that it would start to trim the size of its long-term debt offerings for the first time in three years.

Seems that an improving U.S. economy is bringing in more tax revenue, reducing—very modestly—the government’s need to borrow. In its May quarterly refinancing, for example, the Treasury said it would issue just $78 billion in bonds. That would be down from $81 billion, the all-time record, in February.

As I said the change is very modest. But it is a move in the right direction for a change.

The United States selling less debt. Who would have thunk it?
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