Of Bonds And Bernie

For the second consecutive day, bonds rallied and a strong auction result suggested the Treasury selloff may have run its course — at least in the very near-term.

Yields were richer headed into Wednesday’s 30-year reopening, tracking bunds. German yields dropped the most since June and the bull flattening impulse was mirrored in the US curve.

The rally accelerated following the long-bond sale. Dealers took just 14.2%, compared to a 21.0% average. As Bloomberg’s Cameron Crise wrote, “this could prompt a further bit of short covering from desks, which indeed already seems to be unfolding.”

The juxtaposition with concurrent stimulus headlines was amusing. Joe Biden and Chuck Schumer have discussed a new round of fiscal aid for the economy, with Schumer floating $1.3 trillion (or more) as a possible price tag.

Biden will put forward a new plan on Thursday. The $1.3 trillion figure would effectively bridge the “gap” between the $900 billion package Congress just passed and the downwardly revised Heroes Act, which would have cost some $2.2 trillion.

Apparently, Biden intends to strike a deal with the GOP, at least initially. He has, of course, presented himself as a consensus builder, so it would be a bit uncouth to simply cram something down everybody’s throats right out of the gate. With that in mind, Bloomberg cited people familiar with the discussions who said the new president will attempt to marshal the support of “at least 10 Republican senators… to back the initiative to be unveiled Thursday, speeding its passage in a chamber that will have a 50-50 partisan split.”

A boost to direct payments (from $600 to $2,000) is seen as a likely component, as is more money for vaccines and the state and local government assistance that Republicans vociferously opposed last year.

Because we’re still living in a world where federal government deficits must be “funded” (a not-at-all innocent fairly tale), more spending means more borrowing, and while everyone has spent the last week attempting to factor a Democratic Senate into their forecasts, it’s telling that both Tuesday’s 10-year auction and Wednesday’s 30-year sale went well, even as markets are acutely aware of the prospects for much higher spending than would have been the case if Republicans held the Senate.

Of course, there’s nuance. “Treasury is currently well positioned, in our view, to finance increased deficits over the next few years so we think the actual supply impact could be small and would most likely be seen first in T-bills,” BofA said late last week, adding that “Treasury has $1.5 trillion in cash at the Fed that could provide $700 billion in funding if the Treasury reduces it back to its targeted $800 billion level.”

Deutsche Bank is looking for $900 billion in new stimulus during the first quarter. The bank’s Steven Zeng weighed in with updated projections in a new note, writing that,

We now estimate the Treasury will have to finance close to $4 trillion of deficit and pandemic-related payments (PPP loan forgiveness, for example) in 2021. About 25- 30% ($1.0-1.2 trillion) could be paid for using the Treasury’s existing cash balance, and the rest will require additional debt issuance. Coupon auctions are currently set up to raise at least $2.7 trillion in 2021 — potentially more if the Treasury continues to hike auction sizes or introduces a new SOFR floater later in the year. The outlook for T-bills now is that net issuance will be positive for 2021 (we had expected negative net issuance in our year-end outlook), with the exact amount to be determined by the size of the new stimulus package, changes in coupon issuance, and the Treasury’s year-end cash balance target. For the full year, we expect a relatively modest net issuance amount unless Congress passes a much bigger stimulus package than we anticipate.

Speaking of the outside chance that “Congress passes a much bigger stimulus package” than folks anticipate, it’s worth at least mentioning that Bernie Sanders is poised to become chair of the Senate Budget Committee.

“Sanders will have a central role in shaping and steering the Democrats’ tax and spending plans through a Congress that they control with the slimmest of margins,” The New York Times wrote Tuesday afternoon. “Sanders said he would move quickly in his new role to push through a robust and deficit-financed economic stimulus package soon after President-elect Biden takes office.”

In an interview with the Times, Sanders made it clear that when it comes to tackling the current crisis, he doesn’t intend to dither. “Underline the word aggressive,” he said. “Start out there.”