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player ready...Nervous investors around the globe often anchor their portfolios in supersafe U.S. Treasury securities. But even the sanity of Treasury investing is looking a little crazy these days.
– The Senate nears an Oct. 1 deadline for increasing the federal debt limit. It’s the fifth time during the Bush administration the ceiling has been reached.
If the debt limit, currently at $8.965 trillion, is not raised in the next few weeks, Treasury issuance of debt securities would be curtailed.
Treasury Secretary Henry Paulson, in a letter seeking Senate action on an increase to $9.815 trillion, cited “current developments in financial markets, which would be exacerbated by uncertainty in the Treasury market.”
Kent Conrad (D-N.D.), chairman of the Senate Budget Committee, agreed. “If we fail to act in a timely way on raising the debt limit, the creditworthiness of all United States instruments would be called into question,” he said last week. “That could have a very severe effect on already shaky financial markets.”
The game of chicken, or crying wolf, over the debt ceiling is highly political, of course.
The budget deficit and the need to issue Treasury securities have been less than expected this year, thanks to increased revenue and restrained outlays. The trend is expected to continue next year if the economy avoids recession. Treasury officials have discussed repurchasing Treasury debt for the first time in more than five years.
But the debt ceiling speechifying by Republicans and Democrats in the next few days will be the opening round in the fiscal policy debate that looms in the 2008 presidential election.
– The response of credit markets to last week’s cut in short-term interest rates by the Federal Reserve has been varied.
Rates on short-term U.S. Treasury bills have dropped, as expected. But the London interbank offered rate on short-term loans, used as benchmarks for many mortgages and home-equity loans, continues to trade above the so-called fed funds rate tracked by the Federal Reserve.
The initial reaction of investors in long-dated Treasury securities was to sell, sending long-term rates higher.
Tuesday’s economic reports suggesting slower U.S growth boosted long-dated Treasury prices and trimmed yields. But yields remain higher than they were before the surprise Fed rate cut.
As a result, the interest rate gap between 2-year Treasury notes and 10-year Treasury notes has widened significantly in recent days. The trend indicates an inflationary economy, not one where businesses and investors fear recession.
– The relationship of long-term Treasuries to short-term Treasuries apparently reflects an anxious shift in the investment preferences of international investors.
The latest monthly report on money flows by foreigners in and out of U.S. debt securities in July shows wholesale abandonment of long-dated Treasury securities and corporate bonds in favor of Treasury bills.
Meanwhile, analysts will be watching Wednesday’s scheduled auction of $18 billion in 2-year Treasury notes for signs of global demand.
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