Why is the Treasury offering floating rate notes, or FRNs?

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Nov. 21 2019, Updated 8:42 p.m. ET

Variable interest

By definition, the interest on floating rate notes (or FRNs) is variable. Why, then, in an environment where all indicators point to rising future interest rates, is the Treasury issuing them at the cost of the taxpayer?

“Floating rate notes bring additional diversity to Treasury’s current portfolio and help support our goal of saving taxpayer dollars by financing the government’s borrowing needs at the lowest cost over time,” said Under Secretary for Domestic Finance Mary J. Miller.

FRNs are also expected to provide Treasury debt managers with additional capability to expand the Treasury investor base and extend the weighted average maturity of marketable debt outstanding.

Part 4

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Also, as the U.S. government approaches its debt ceiling, the Treasury is expected to curtail the supply of future T-bill issues. The current debt ceiling on government debt is suspended through February 7. If the ceiling isn’t raised or suspended again by that day, the government will have to employ extraordinary measures to extend its borrowing authority.

FRNs pose similar risks to the Treasury as Treasury bills. For example, an FRN that allows the interest payment to change weekly would expose the Treasury to the same interest rate risk as issuing a series of weekly Treasury bills. However, FRNs allow the Treasury to better manage its debt by issuing securities with longer maturities than Treasury bills.

Judging by the auction frequency announced (see the schedule below), FRNs are expected to meet a significant funding target for the Treasury, at least in the medium term.

  • The two-year FRNs are auctioned in January, April, July, and October.
  • Two-year FRNs are also auctioned as re-openings in February, March, May, June, August, September, November, and December. The reopened security has the same maturity date, spread, and interest payment dates as the original security, but it has a different issue date and usually a different price.

The overwhelming response to the $15 billion inaugural issue—which was oversubscribed over five times—demonstrated the latent demand for high-quality debt that allows the investor to benefit from rising rates in the future. Why did investor enthusiasm reach such levels when other variable rate instruments, such as leveraged loans, are available? To find out, move on to Part 5 of this series.

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