First 20-Year Treasury Auction Validates Mnuchin’s Patience

(Bloomberg Opinion) -- A 20-year U.S. Treasury bond isn’t a curiosity anymore.

The federal government’s first 20-year bond auction since 1986 is in the books, and it was a solid, if unspectacular, debut for the maturity. That should be music to Treasury Secretary Steven Mnuchin’s ears.

Perhaps the most clear-cut gauge of a Treasury offering is its yield relative to expectations. The 20-year bonds drew a yield of 1.220%, slightly higher than the 1.213% yield that traders were indicating before the sale but much lower than the 1.27% derived from Bloomberg’s relative value spline curves. BMO Capital Markets strategists noted before the sale that the 20-year part of the curve had cheapened relative to the 10-year and 30-year portions, suggesting “an incremental yield pick up in the early days of the new bond as a concession for what will initially be a comparably thinner volume profile.”

Judging by Wednesday’s auction, there should be no shortage of future demand. The bid-to-cover ratio, which measures how many times investor interest covered the $20 billion auction size, was a solid 2.53. While there’s obviously no previous 20-year sale for comparison, the figure is in line with last week’s 10-year and 30-year offerings, which came in at 2.69 and 2.3, respectively. Primary dealers, which are obligated to bid, were left with a relatively high 24.6% share, more than they had to take at the 10-year and 30-year sales. Jim Vogel at FHN Financial saw that as a sign “markets always shun the new kid,” though acknowledged this new maturity did somewhat better than the three-year and seven-year tenors before it. Indeed, longer-dated Treasuries rallied after the sale.

A number of technical reasons explain why strategists widely expected this auction to go off without a hitch. For one, the 20-year bonds are deliverable into the classic bond futures contract, creating a base level of demand. Bloomberg News’s Elizabeth Stanton broke down how this enabled traders to ballpark the yield on the debt even without any directly comparable existing securities. Also working in its favor: Currency-hedged yields for Japanese investors are the highest since October 2018 for longer-dated Treasuries, as I noted in a column earlier this month. Even for domestic buyers, yields are at the high end of the range that has held since late March. And, of course, when push comes to shove, the Federal Reserve can buy up to 70% of any issue, though it has been scaling back its purchases.

At a higher level, though, this auction validates Mnuchin's patience in bringing a new maturity to market. I’ve covered the ups and downs of his ultra-long bond proposal since he was chosen as Treasury Secretary in late 2016. He could have been rash and demanded 50- or even 100-year bonds to leave his mark — in May 2017, he said those kinds of maturities “could absolutely make sense for us at Treasury.” Instead, he prudently stayed true to the department’s mission of predictable, regular issuance at the lowest cost to taxpayers. That meant keeping a new offering within the existing yield curve, even if that was viewed as ultra-safe.

Treasury revealed that it would move ahead with the 20-year bond in mid-January, well before the coronavirus was even on the radar as a serious risk to the U.S. economy. At the time, some analysts were skeptical of the decision, saying it’s little more than “a feather to put in your cap.”

With the benefit of hindsight, and now months into the Covid-19 crisis, the decision only looks smarter. The U.S. budget deficit is approaching $4 trillion and could be even higher. The initial size of the 20-year bond surprised some traders earlier this month, who were expecting more like $12 billion to $14 billion, but today’s auction proved it’s hardly too big to cause any sort of market indigestion. By contrast, a novelty offering like a 100-year bond would have had to be much smaller than $20 billion at first, and tougher to reliably ramp up. It seems reasonable to expect that 20-year sales could gradually grow with the rest of the auction slate in the quarters to come, given that it’s the smallest of any tenor. 

In all likelihood, this is the final exciting moment for 20-year U.S. bonds. Going forward, these auctions will be routine, familiar, unremarkable. In other words, just what the Treasury wants to see.

This column does not necessarily reflect the opinion of the editorial board or Bloomberg LP and its owners.

Brian Chappatta is a Bloomberg Opinion columnist covering debt markets. He previously covered bonds for Bloomberg News. He is also a CFA charterholder.

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