12/09/22 – The Irrational Treasury Bill Market and “The Turn”

December is a tricky time for the capital markets as banks, brokers, and investors all endeavor to close the year with their respective portfolios 100% invested.  Carrying cash over “the turn”, as year-end is colloquially referred to, is not acceptable in the capital markets.  As a result, markets can become volatile to the point of seeming irrational.  This year that irrationality is most evident in the Treasury Bill market.  We refer to the soon to mature December 15th Treasury Bill, although the entire nearby Bill market has also been volatile.  The Dec 15 Bill yielded 3.15% at the close of November but ended the day yesterday yielding 2.39%.  Logically, that makes no sense.  The overnight Fed Funds rate corridor is 3.75% to 4.00%, and the Fed Reserve Repo program offers a set 3.80% rate for the institutions that qualify for the program, and yet the near-term Bill curve continues to be in disarray as we approach the end of the year.  One needs to look no farther than the “Calculated New Cash/Pay Down” section of the Treasury Direct website to understand why.  Between December 6th and December 13th the Treasury paid down $76 billion in Bills; that’s to say that they sold $76 billion Fewer Bills than the amount maturing.  In effect, the Treasury tipped the supply/demand of Treasury Bills out of balance which has resulted in wild gyrations in the Bill market.  The Treasury will refill their coffers somewhat next week with net new cash of $64 billion when they sell the new 3-year, 20-year and 30-year securities, but that should not solve the Treasury Bill imbalance.  As a result, we expect Treasury Bills to continue to trade rich to the Fed Funds target and the Reverse Repo program into year end.

This morning’s Producer Price Index was likely a disappointment to the Fed as the month-over-month inflation measure came in above expectations despite the year-over-year measure ticking lower.  Trader’s double-clutched in the moments after the data was released, with the long bonds trading down only a few ticks before the selling began in earnest, but by the middle of the day the 30-year bond was trading back above 3.5%.

The volatility is sure to continue into next week as the Consumer Price index is released on Tuesday, the FOMC announces its rate decision on Wednesday, and the November Retail Sales report is released on Thursday.  The Fed is widely assumed to raise the overnight rate by 50 basis points, and we don’t differ with that expectation.  But the CPI and Retail sales are sure to influence their decision making in the new year and will, therefore, be closely watched.

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