Treasury Investors Retreat From Auctions in Face of Rising Rates

  • Last three coupon note sales of 2015 draw weak buyer interest
  • Fed officials expect to lift interest rates four times in 2016

The Treasury’s final three auctions of coupon-bearing notes this year drew some of the lowest investor demand since the financial crisis with the Federal Reserve on course to raise interest rates several times next year, potentially lowering the value of the debt.

At a seven-year note sale Wednesday, short-staffed desks compounded the challenge the U.S. faced in selling $29 billion of the securities as investors bid for the lowest amount since March even at the highest yields since September 2014. Demand at auctions of two-year notes and five-year notes earlier in the week drew the least interest since 2009 as measured by the bid-to-cover ratio.

"Investors are beginning to recognize the differential between what the Fed is saying and what the market is pricing in," said Aaron Kohli, a fixed-income strategist in New York for BMO Capital Markets, one of 22 primary dealers that trade with the central bank and are obligated to bid at Treasury auctions. "The market is too dovish on yields right now. That needs to correct."

The trio of sales reflects a broader trend in the $13.1 trillion Treasury market as demand at auctions fell this year to the lowest since 2009 after Wall Street dealers and central banks pulled back. Investors bid for 2.8 times the almost $2 trillion of notes and bonds the U.S. offered before this week, down from 2.99 in 2014, data compiled by Bloomberg show.

Policy makers expect to raise rates four times in 2016, according to the median of the Fed’s so-called dot plot, a chart sketching out officials’ projections for where rates will be in the future. The market continues to anticipate two Fed rate increases in 2016, according to futures data compiled by Bloomberg.

Investors were in no rush to buy the securities this week even though yields at the $26 billion two-year auction were the highest since 2009 and the highest since September 2014 at the $35 billion five-year sale.

Traders are pricing in a 61 percent chance that the Fed raises rates at or before its April meeting, based on the assumption that the effective fed funds rate will trade at the middle of the new Federal Open Market Committee target range after the next increase. The market continues to anticipate two Fed rate increases in 2016, according to futures data compiled by Bloomberg.

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