Collateral Storage Is Brewing As U.S. Bills Are In Immense Demand
Well take a flashback as demand for T-bill yields hit March 2023 lows.
A lot of focus in the U.S. bond market is typically placed on the 10- or 30y bond, which is important in the week-to-week trend. The 10y yield filters into everyday rate products with mortgage rates while the 30y yield gives a solid indication of market participants’ expectations for growth and inflation.
However, not enough attention is paid to T-bills and the fact that they are the prime collateral for the global finance system. I've talked about this previously, but, given what's currently happening, I want to flashback to a previous article and give my thoughts on what could be going on.
The fact that the bill complex is reaching near-two year lows is an indication that financial entities are looking for high-quality, prime collateral. These markets are often boring, but the 1m yield was down 10 bps on Friday, and the 2m and 3m are plunging, as well.
This is not some time of fear mongering that at any minute risk assets are going to crater, but it's a warning sign when these bills are in immense demand.
What could be the root cause of this demand may stem from troubles in Asia with Tokyo being a giant eurodollar hub.
I've outlined that here. In this article, I also went over how the flows of Treasury holdings in Japan (we see this in China, too) that this is not some sort of “de-dollarizarion” but an effort to sure up dollars as financial and economic stife occur.
In the most recent Treasury International Capital (TIC) report, out this October, we saw both China and Japan were heavy sellers in July and August. It's counterintuitive, but as this were occurring, treasuries were rallying strongly.
I've talked about this in the past, but we saw the same dynamics as China was struggling with dollar issues in 2013-15. For those that follow these market dynamics, this was dubbed as a “global synchronized slowdown,” but China did was China does best - they jawboned.
China spoke loudly that they did not see any reason to continue to buy Treasuries as a part of their reserves. They cloaked their stress-selling as strength.
This was also a time oil could not catch a bid for any reason, falling from $110 to $35/bbl.
It's interesting how history does repeat but surely does rhyme.
The above chart, I posted in a previous notes and on X, and it showed the US 10y yield in 2018 allow with global liquidty just before the Fed ended its QT program and pivoted from rate hikes. The infamous “Powell Pivot.”
The dynamics in the US are a bit different, but Asia has always been struggling with both growth and dollar woes.
Powell cut the level of QT but it's still ongoing, and liquidity continues to be sucked out of the system. It's QT that's the issue not further rate hikes.
It also shows how yields did fall after dramatically rising in Q3 both in 2018, and they're currently rally now.
I suspect that the current demand for T-bills, aside from rising dealer holdings, may stem from Japan with the yen holding its own at 150, down from 156 earlier this month.
We all know that the Bank of Japan (BoJ) owns the Japanese note and bond market, but most do not realize nearly 50% of all J-bills are own by foreign institutions as collateral.
It's possible that with the BoJ hike on deck - opposed by a Fed cut next week - we could be seeing requests for dollars collateral.
I went over the potential BoJ and Fed outcomes next week here.