Short-term US Treasury yields turned negative Thursday and some continued trading in the red on Friday.
While last year's yield drop was primarily driven by panic in the wake of Lehman's failure, this flight to Treasury bills is likely driven more by banks bolstering balance sheets than panicked investors.
Short-term US Treasury yields turned negative Thursday and some continued trading in the red on Friday—with rates on T-bills maturing in January flat to slightly negative, and the yield on the three-month bill around 0.015%. T-bill yields last fell into negative territory in December 2008 amid financial panic—leaving some speculators claiming the recovery may be in jeopardy.
However, today's climate is markedly different from that of nearly a year ago. In December 2008, the stock market bottom was still in front of us, and stocks had a ways to fall as investor risk aversion was through the roof. Today, we're in the midst of a massive equity recovery—global stocks are up about 70% since March's low. And economic recovery seems to be underway globally and in the US too, which posted 3.5% Q3 GDP growth.
The $64,000 question—what's driving rates down?
While last year's yield drop was primarily driven by panic in the wake of Lehman's failure, this week's rate decline largely boils down to supply and demand—demand for Treasury bills is elevated, but supply is dwindling. Launched in September 2008, the Treasury's Supplementary Financing Program (SFP) enabled the sale of T-bills for cash to be used in Fed emergency programs. Initially targeted at $200 billion, the Treasury is now downsizing the program to meet a stated goal of $15 billion—significantly reducing the availability of T-bills.
And the demand side of the equation? Not surprisingly, given the disruptions in the financial markets over the past year, banks are now favoring liquidity in a show of reserve strength. Many are stashing some of their ample cash reserves in short-term government securities to shape up year-end balance sheets and meet associated funding obligations. Beyond banks, hedge fund managers—slightly less eager to spin that wheel of fortune after last year's dismal performance—are likely looking to lock in returns for the calendar year by stashing money in government bills. Money market investors, faced with fewer options, are also looking for places to park their cash—issuance of commercial paper, a popular money market security, has shrunk in the wake of the credit crisis, down nearly $1 trillion since July 2007.
And it's worth noting the two-year note is considered a good indication of anticipated future interest rates—its current low yield likely reflects widespread expectation the Fed will keep rates low for the foreseeable future (a sentiment undoubtedly supported by this week's statements from Fed Chairman Bernanke and St. Louis Fed President Bullard).
Those searching for any little indication this recovery is stalling may be alarmed by today's negative yields. But this flight to Treasury bills is likely driven more by banks bolstering year-end balance sheets and a sudden dearth of short-term Treasuries, rather than by panicked investors.