Must-know: Inflation expectations impact Treasury yield curve

Part 2
Must-know: Inflation expectations impact Treasury yield curve (Part 2 of 5)

Why the demand for four-week Treasury bills fell in the past week

Last week’s Treasury auctions

Last week’s Treasury auctions included $25 billion three-month (or 13-week) and $23 billion six-month (or 26-week) Treasury bills (or T-bills) auctioned on June 16 along with $25 billion one-month (or four-week) T-bills auctioned on auctioned on June 17. The week ended with $7 billion 30-year Treasury inflation-protected securities (or TIPS) auctioned on June 19.

Four-Week Treasury Bill Issuance versus Bid to Cover RatioEnlarge Graph

Four-week T-bill auction results

The U.S. Treasury auctioned $25 billion in one-month T-bill issuance on June 17. The issuance amount for one-month bills have been decreasing over the past four weeks. Issuance, which stood at $45 billion at the May 28 auction, has now come down to $25 billion.

The demand (as reflected in the bid-to-cover ratio) for these bills fell in this week, as investors began to shun fixed-rate bonds on inflation expectations. The bid-to-cover ratio for four-week T-bills slid from a high of 4.71x in the June 10 auction, to 4.47x in the June 17 auction.

The bid-to-cover ratio compares the number of bids received in a Treasury auction with the number of bids accepted (or the amount of securities issued). The higher the ratio, the greater the demand for the auctioned securities. A bid-to-cover ratio over two corresponds to a successful auction, while a ratio of less than one shows an under-bought auction.

Drop in demand for one-month bills

The drop in demand for four-week T-bills on inflationary concerns caused a rise in yields. Also, with the Consumer Price Index (or CPI) release coming stronger than expected and building inflation expectations, more investors are moving out of fixed-rate Treasuries, which became less attractive given the expected rise in inflation.

Primary dealers took center stage at the past week’s four-week T-bill auction, grabbing 85.06% of the total issue. Indirect bidders, including foreign banks and international authorities, grabbed 10.19% of the total issue—down from 30.35% the week before. Since indirect bidders generally purchase T-bills to be held to maturity, their lower share corresponds to lower end-user demand. The rest 4.75% of the issuance came in the hands of direct bidders.

Investors’ takeaway

Exchange-traded funds (or ETFs) investing in one-month T-bills are the SPDR Barclays Capital 1–3 Month T-Bill ETF (BIL) and the iShares Barclays Short Treasury Bond Fund (SHV). Investors can also invest in ETFs like the PIMCO Enhanced Short Maturity Exchange-Traded Fund (MINT), which also includes short-term corporate securities that offer higher returns for marginally higher risk. MINT invests in short-term securities such as T-bills, commercial papers, and mortgage-backed securities. A total of 70% of the fund’s assets are deployed in securities with maturity of less than a year. Goldman Sachs (GS) and Verizon Communication (VZ) form 2.7% of the total holdings of MINT.

To learn about the three-month T-bills auctions held on June 16, continue reading the next section in this series.

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