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Hello, and welcome to another episode of the Odd Lots Podcast. I'm Jill Wisenthal, and I'm Tracy Alloway. Tracy. Every once in a while, and I mostly see this on Twitter, if I'm being honest, but every once in a while I see people trying to make a big deal about like the quarterly refunding announcement by the Treasury. Is if it's going to be some like big market mover on par with like a FED decision or something like that.
I like how you say mostly on Twitter, like there's even a probability that you would be walking down the street and someone's talking about like debt issuing other than maybe looking at that debt clock or whatever it is.
Yes, Like it's not something that comes up at a bar specifically, or he I don't hear people talk about it on the street. I also do know if it's like a real thing that like people in markets actually care about, or if it's just sort of this talking
point pundit sort of quasi political thing. So we are recording this August eighth, but in late July, Neurial Rubini and Steven Mira put out this paper essentially saying that the nature of current issuance, which is that the government is borrowing a lot at the short end of the curve. I think they called it like this, like stealth quy, and maybe insinuated that there were sort of like political or specific economic motivations that causing them to issue where
they do. So there's a lot of like talk about this.
Yeah, so I am vaguely aware of some of this discussion. So the idea here per Robini and Mirren is they're calling it activist treasury issuance or ATI. And the idea, as you say, is maybe some of the stuff the Treasury is doing and specifically choosing to kind of reduce the amount of longer term treasuries they've been issuing and rely more on shorter term bills. That's something they've done recently.
The idea is that in so doing, they're essentially mounting the stealth QE, easing financial conditions in a politically sensitive election year, flattening the old curve to stimulate growth, and then ultimately per their calculations. There's a very detailed paper. It's worth like one hundred bits in a benchmark interest rate cut, but it's being done by the Treasury, which is something that you know, the Treasury is supposed to
be independent to the Federal Reserve. And so there's this discussion about like political motivations and conspiracy and things like that, right, And it's.
A very like interesting topic because the question is like, Okay, there's some sort of framework that the Treasury uses to figure out where and when they're going to issue on the various curve, and are they deviating from that in some way? And you know, part of the timing here is that the FED is currently doing QT right, It's letting those longer dated assets roll off the balance sheet, and so then the question is like, oh, there's the
Treasury purposely trying to counteract that. By okay, if the Fed is selling long term debt, is Treasury selling less long term debt? Muting the impact of monetary policy? All kinds of interesting questions. Anyway, we've never really done, I don't think, an episode on how governments manage debt and think about this challenge, and so it's a very timely time to do so and to sort of look at what really is going on.
No, we haven't, and I'm really interested in this topic. I know you and I talk about the treasury market, but we haven't gotten into those specific decision making processes and the rules that maybe govern debt issuance. All I know about the treasury is the ultimate financial markets, Karen, because every quarter it's out, they're asking for a refund. But good one, Tracy, thank you, Thanks Joe. No, I'm excited about this conversation.
Let's do it.
I'm really excited because again, you know, there's the short term question, there's the interaction of issuance in QT, there's the election, there's the economic cycle, there's fighting inflation, and then we have huge deficits in this country and they're going to expect to be bigger and bigger. In February, the CBO put out an estimate that there was going to be another twenty trillion and accumulated deficits between twenty
twenty five and twenty thirty four. The estimate will certainly be wrong in one direction or another, but there is a lot of debt management out there. Anyway. I am excited to say, we really do have the perfect guest. We're going to be speaking with Amar Raganti. He is a fixed income strategist at Wellington Management and Hartford Funds. But also importantly he spent four years twenty eleven to twenty fifteen in the Office of Debt Management itself. He
was a debt manager. He made these decisions, understands how they're made within the Treasury. So Amara, thank you so much for coming on odd lots, Oh, thank you for having me totally someone I've really enjoyed talking to a meeting for a long time. Thrilled to have you on the show. Finally, let's start with like the really big
question or sort of like maybe a frameworks question. You know, when the Fed is thinking about, Okay, we're going to issue thirty year treasuries or one month tea bills or whatever. You know, there are various factors that might go into that. There's demand for the market for duration. There's perhaps a desire to minimize total coupon payments over the life of the debt. There's other things that go into this question. There's an impulse for consistency and reliability in the schedule
of auctions itself. Talk to us how you would describe what the Treasury or the Office of Debt Management is solving for when it decides where on the curve to issue and how much sure.
In sort of bold headlines, the Office of Debt Management would say its job is to finance the government's deficit at the lowest cost for txpayers. The problem, of course, is that there there's a lot of things behind that. The implications go beyond just sort of what you'd call a number that you could scratch down on a piece of paper. And then additionally, you know, what you're trying to solve for is something that you won't know xanty,
meaning like you won't know as you're doing it. You may know, may know after the fact, because you wouldn't have known how you would have changed financial conditions if you had done something different. It's sort of loosely like Heisenberg, right, like the moment you observe it or act on it, you're changing the very nature of the treasury curve and
importantly the treasury ecosystem. So Treasury and the opposite of debt Management are aware of this, this dynamic that the fact is is that when they act, they actually change the market pricing and microstructure that exists around what's supposed to be the world's deepest and most liquid sovereign debt market. So they try to actually take what I'd call the most boring route they could possibly take, and that is something that's called regular and predictable. Now we toss this
term around a lot. If you've even been ancillary to debt management practices, you know, using the words regular and predictable is almost like mentioned with like religious reverence. Right. The idea is you're there not to surprise the market, not to shock it, importantly, not to be a source of volatility. And this was pioneered by Paul Volker actually in the nineteen seventies to start a regular and predictable practice. But regular and predictable is there to accomplish a number
of things. It's there to make sure that you are one not disturbing markets more than they need to be. Two by laying out what you're planning to do and do it in a very slow and methodical way, you know, you are effectively feeding the larger treasury ecosystem. So it's not like, oh, the curve is shaped this way or
it's steeped this way, and we should issue more. Your job is to actually look across the entire treasury ecosystem, like who are the participants who are involved, and then come up with the way of making sure that ecosystem remains healthy. It's weirdly more like gardening, or like maintaining a natural environment than what you think of like the tactical issuance of a normal corporate issuer.
Gardening is a really nice analogy for it, actually, because I don't think I mean, I only started like seriously gardening in the past couple of years. And the thing about gardening is people will say it's like art, but it's art in multi dimensions, right, because you're thinking about time, so like what stuff looks like throughout the growing season, you're thinking about colors, and then everything is on a super long term timeline, so you plant something now and
you don't really see the impact until a year or so. Okay, wow, I just went we used to talk about gardening. No, okay, I want to move to a different analogy. So when I think about debt issuance, I used to cover corporate credit and so I think about, you know, being a treasurer at a large multinational like an Apple or a Microsoft or whatever, and the decision making process there where you know, if I decide there are favorable market conditions, I might go out and work with my bankers and
decide to issue some debt. What is the difference between being a treasurer at a big company versus being US Treasury.
Oh, a vast difference, right, And I too started on the other side as a corporate portfolio manager in the bond market. You'd look at companies coming to the market they either needed cash or as opportunistic. For the US government and for the debt management office, it's very different. It's that you are always going to be at various points on the curve, whether or not at that point.
It's what i'd call tactically a good thing. And you know, this goes into that regular and predictable issue in cycle. And the point there, and this is how we get to cost, which is again different from how corporates measure cost, is that by being consistent, by helping this eco system thrive,
you're going to create a liquidity premium. Right that because there is this regular and predictable nature to your issuance cycle that people understand, they're not going to be surprised that the availability of securities is going to be well calibrated to what the environment needs. And when I meant
environment or ecosystem, I meant the entire eco. You want to service as broad and diversified group of investors as possible, and that includes people who will actively short your securities, right because that provides a supply outside of auction cycles for people to buy and also help stimulate repo markets and so on. So you want to be sure that you aren't attempting to use pure price on what's on the yield curve as a point on why or how you should issue. Now I want to be a little careful.
There is a quantitative framework that Treasury has and it's a model that you know, a number of people collaborated on. Credit goes to people like Brian Sachs, Reading Ramaswami, Terry Belton, Christossia, a number of others who built this model, and it sort of gives a sense of okay historically based on a number of inputs, whereas Treasury benefited the most by issuing.
That's like an important guidepost. But the more important part is the qualitative feedback that Treasury hears from its dealers, from investors, from central bank reserve managers who hold vast amounts of treasuries, and that all also feeds in along with the borrowing advisory committee into making issuance.
Decisions right, and then feedback and the needs of various investors changes over time. And I mean, of course, in extreme periods, you know March twenty twenty, everyone just once the most liquid thing in the world, which is the shortest end of the curve. Obviously, other times there is a tremendous demand for duration and people want to buy at the long end. That all changes. Let's just talk
before we even get to the specific. Now, you know you were in this office for years twenty eleven through twenty fifteen. What is the quarterly process? I know, there's like a survey that goes out, they look at the curve, et cetera. There's the estimates for how much is going to need to be financed in that quarterback. Can you walk us through the quarterly process that leads up to the announcement of this is the new auction schedule.
Yeah, there's a number of pieces to it. One is within Treasury, there's a separate office called the Office of Fiscal Projections, and their job is to sort of project out what the upcoming cash needs over a given quarter are likely to be. And once you know the debt managers have that information, they can start thinking about, you know,
the various allocations among their regular securities. But obviously there's issues that they want to receive feedback on, so there'll be a primary dealer survey which could address things like the composition of issuance, changes to issuance, or even other things like new products, issuance points, regulatory events that are impacting the demand for treasuries. So that goes out several
weeks before the quarterly refunding process. Treasury then comes to New York and meets with a subset of these primary dealers at the FRBN Y and then Garner's feedback and has sort of very candid back and forths with questions and here's feedback on what the issuance process has been thus far, really to kind of sample what's on the primary dealer's minds at that given point. Following that, when they're back in DC, they begin the process of preparing
their presentation to the Borrowing Advisory Committee. And already, you know, several months before, they've assigned what's called charges to individual members of the Borrowing Advisory Committee. And these charges are specific questions the Treasury would like answered with the expertise and help of the Borrowing Advisory Committee. This could be things like blue sky ideas of what else should we be issuing, or is there some impact likely to come
on markets because of a change in regulations. It could span the gamut right. Treasury doesn't ask these questions casually. It doesn't mean they're going to act on recommendations, but it gives a sense of what's on the Office of Debt Management's mind. Treasury will then meet with the tea back.
They'll hear the presentation of the various charges present to the tea back, and then later on that day the tea BAC will present to the Secretary or the senior most Treasury official available, and then on that following day there'll be a release of the broadest amount of information. There's a release that morning as well, but over those two days there's the release of the presentations, the minutes, the data packs, and that is the sort of signal to market on what issuance is likely to be. And
there's a press conference that goes with this. And what's funny, as you guys have mentioned, is if you watch a Federal Reserve press conference and watch how tightly packed that room is then you go to a Treasury quarter refunding press conference, see how finley staffed day.
I could actually get into one of those, because I'm probably I'm never going to get into a FED press conference, but we could probably get into that.
But and this is not deliberate, but it's there to be boring.
Why don't we bring it up to date with the most recent events and like specific decisions that have been made, because maybe that will help us understand the decision making framework that you just outlined. But this whole discussion has kicked off because despite the fact that the US government has a massive deficit, the US Treasury has said that it is sort of tempering the increase in its issuance of longer dated securities, So it's sort of backing away
from it. I think in the most recent quarterly funding announcement they said they were going to keep the issuance of longer term debt basically unchanged.
Also, Tracy, just to add on to that, we haven't inverted yield curve. So theoretically, if you wanted to borrow at the look, you know, one could say, oh, look, it's cheaper to borrow at the long end. Why are you selling all these bills when actually the cheapness is at the end.
So this is the very essence of the current controversy. Ye, what is happening And I know you're not a treasury now, but what is happening when the Treasury comes out with that kind of decision?
Okay, So the first kind of framework you want to think about is, and you would ask this initially, is how do they make these directional issuance decisions? Well, the first kind of thing is that Treasury does look at long term averages of where it is in its weighted average maturity, Right like, when you add all these securities together, what's sort of the average maturity, And historically it's been around sixty sixty one months. Treasury is well above that.
Right now it's around seventy one months, so it's actually pretty pretty high up. The second thing, which.
Just to be clear, most people would say that's a good thing, right you want to term out your debt.
Maybe if you're a corporate treasurer you might want to do that, but there's a lot of arguments that you actually don't want to turn out your debt.
Oh interesting, okay.
So yeah, the first is is that, yes, the curve is inverted. That's if you decided to move issuance that way, chances are you could uninvert the curve. I'm not saying that's a definitive. It depends on how much or how likely you know what else is happening in markets. The second thing is is that as in a previous episode,
I thought Josh Junger explained it really well. You know, you could roll these three month bills you know, all the way out to ten years, or you could issue a ten year and if you're sort of risk neutral, there's no savings, right or there's no gain or savings. It just means that forwards get realized, and effectively, it's
effectively the same thing. So when Treasury does that, you're saying that over time, you're effectively making a tactical rates call that somehow that you think that ten year rates or thirty year oss won't go substantially lower. That's the first thing. The second thing is is that the sheer amount that you can put on the ten and thirty year is going to be less than what you can put in the bills market. Now, that's just absent anything
that the Federal Reserve is doing. That's just generally true, right, Like it's just a broader and bigger it tends to be a broader and bigger.
Shorter there's more demand for shorter dated securities.
But the third thing is is that what Treasury really is trying to do is look around across the ecosystem and say, hey, where should we be feeding securities to over time? If we are kind of taking a risk neutral sort of approach to this, right that we're not extrapolating what forward curves.
Are going to be.
We don't know any more than a typical rate strategist or someone we know what we don't know about how market rates evolve over time. So because of that, our job is to help issue securities to where the biggest pools of capital are because that's how you issue risk free securities and keep up the health and demand for and liquidity of your asset class. So the biggest pool of money now, in particular, is still at the front end. Right.
The amount of reserves that have been created is really dramatic. Now the pushback to this is, well, hey, the Federal Reserve created all these reserves, and now you're sort of taking advantage of this and you're issuing there Now, as I might have mentioned before the show, every decade, this criticism sort of gets leveled at Treasury that to some degree you are standing in the way of monetary policy. Back in twenty eleven and twelve, it was a very
different set of people who had a critique. It was Larry Summers, Josh Rudolph sam Hansen, David Greenlaw who'd said Treasury was extending its long term issuance and extending the maturity the weighted average maturity of its debt while QE was going on, and it said, you know, the FED is buying long term securities and you're issuing long term securities.
You're getting in the way of the Fed. And just the flip side of the critique is now, which is that the FED wants to tighten financial conditions, and by issuing shorter day to debt, you're not allowing financial conditions to tighten as much as this.
The criticism back then was that they were potentially steepening the curve, whereas now people are like, oh, they're flattening the curve to stimulate growth.
Yeah, to some degree, that's right, And Treasury's answer is usually remarkably consistent. We're announcing what we're doing well in advance of what we're going to do. If the Federal Reserve thinks this is inappropriate for monetary policy, it can absolutely take steps to do more. So the pushback in eleven and twelve or twelve and thirteen, I think was the Fed can buy more, right, Like, the Treasury is going to issue what it needs to issue for its
financing needs in any given year or quarter. But the Fed's trying to take duration out of the market back then, and the Treasury is issuing duration, the Fed has the flexibility and freedom.
To do more.
The flip side here is if the Fed thought term premia wasn't enough or the curve wasn't steep enough, the Fed has tools where it can steep in the curve. It could outright sell securities from the SOMA portfolio and steep in the curve. What Treasury is really trying to do is it's almost like you walk into a room, right, and you move a large piece of furniture. You move around the piece of furniture like that furniture is not going to be moving dynamically, right, It's sort of set
in its place. And the FED, as a central bank with multiple tools at hand can move around it, not saying rather easily. It complicates the job. But the whole point of regular and predictable is not just to signal to markets participants, but also to signal back to the central Bank that this is what's happening.
Joe, this is my second favorite topic, which is interior decorating. Oh, you just talk about gardening.
Can talk about this on the HGTV channel in the discord. Maybe we'll talk about it there. So this is actually really interesting because if the auction schedule is laid out in advance, if it's regular, et cetera, you can actually sort of test the proposition whether the Treasury is being activist by how quickly it changes. It sounds like in the Fed his total freedom and total institutional acceptance of the idea of agility, and that we expect it of them.
But if the Treasury were being activist in some way, that would be weird because we would see it very explicitly in a changing nature of auction.
Sure, And in fact, in the paper you reference that came out, the place that was pointed to was in Q three Q four of last year, when in the August refunding Treasury had said we plan to increase coupon sizes, and there was a lot of noise around this, and you could see really yields really sort of steepen out. And then in the November refunding, Treasury was like, yeah, we're increasing coupon sizes, but it's not going to be that much, and really yields slammed back down, and in
fact we're well below those levels now. So it kind of behooves the point on whether or not you know that actually made a difference or not.
So let's get more to the right now. I actually don't remember their numbers, Like, so the one that you said that average maturity currently for all outstanding that is actually on the long side, so seventy one, just to get back to the sixty month and the average has been historically about sixty months sixty one, Yeah, okay, so just to get back to average would argue for actually doing what the treasure is doing, which is issuing more
at the short end of the curve. But why don't you talk to us about like what is the sort of split right now? And then more importantly, what are the overall market context, whether it's demand for duration, whether it's something about market microstructure, whether it's whatever is going on that sort of tell the Treasury go shorter.
Yeah. So one, it's trying to think about what your long term averages has been and just sort of recalibrating a little bit over time. It's not a this is important, it's not a hard role. You don't need to do it. You also can look at things like the ratio of
bills to coupon's outstanding. Again not a hard rule. So one of the sort of controversial things was that Treasury had typically given guidance saying we like to keep bill issuance around twenty outstanding about twenty percent, or issuance around twenty percent of the total issue in size. Where we are now, we're like a few percentage points above, right,
And this has caused among some academics some consternation. But again, if you go to the eighties, it was thirty five percent, right, Like, it's fluctuated over time as issuance needs have taken place. And then as well as where are the largest sort of pools of money. Now, if you're going to issue into this environment with where you're trying not to cause lots of volatility, it would mean shortening right now. If there was an extraordinary demand for duration that was going on,
there's no reason you need to shorten your wham. You could keep it at where it's at, you could keep it constant, you could increase it a little bit. For example, has gone substantially higher in terms of the way to average maturity. I think at times it's been at like ninety months. So the point is is that you're not constrained by any of these what i'd call like rules.
It's to really read the market microstructure. Post Dot Frank, for example, Treasury understood that there'd be a really substantial need for a lot of short term, stable value collateral. People had to post margin for derivatives right they had to keep effectively more cash like things on hand, and Treasury reacted to that. It created the floating rate note
as an example of something like that. The reason why the fifty year and one hundred year bond don't exist right now is that Treasury sees the market microstructure and doesn't think there's going to be regular and predictable demand at those levels. So every time that debate has come up, every time a new secretary comes in and thinks that they want to do something like that, they usually have not have to. They walk it back because staff shows them like the analysis.
Okay, so you mentioned te back before the Treasury Borrowing Advisory Committee, which is like a representative group of market participants that advise the Treasury on things that the Treasury asked them to look at. And one of the things that Treasury has asked them to look at recently is
the strategy for tea bills. And some people are interpreting this as like a sort of direct response to the ATI criticism, where like, well, let's ask the market participants if they think this is some big conspiracy, or if it matters or what the shape of tea bills should be. What does it mean that t back is like looking at this.
Yeah, they will often use the charges as a way of responding to criticism, and to be fair, they actually want a sort of what I'd call a deep dive into that. They want to know are they inadvertently doing something that is causing consternation among market participants that's upsetting
the sort of carefully laid out Treasury ecosystem. And that's exactly the type of feedback that they want, I think, where they you know, you could take a little umbrage at was this idea of activist issuance and some type of political push, because this is usually one of the
most technocratic places within Treasury. The secretary generally has a lot of other things on his or her mind, everything from counter terrorism to the international affair side, which is financial diplomacy and debt management is an important piece, but it is a piece of that, and you typically rely on your Assistant Secretary for Financial Markets to really be that point person to handle that part of issuance.
Yeah, I noticed that when you described a quarterly process for auction schedules, there was no point in which the Treasury Secretary walks in and say, hey, guys, it's an election here, we need to do this. Just yesterday, August seventh, Great Bloomberg story, Steve Mnuchen says it's time to kill the new treasury bond he created. So he revived auctions of a twenty year bond, and apparently there's not much demand for it. Yield is higher than ten year, yield
is higher than thirty year. First of all, what causes it? Why? What is it about market structure and treasury that would cause something like a twenty year treasury to become orphaned like that.
Yeah, well, first, you know, just a little bit of pushback. Yes, it's traded above the thirty year, but you know, in recent months that spread has actually collapsed, per okay, but it's still above the thirty year, and that's a fair point. There can be any number of things. The demand for a particular treasury or particular treasury security or a point on the curve is influenced by a whole lot of other things. So for example, you know, why is the
thirty year in such demand. Well, one market participants already you know, incorporated o their portfolios. Private sector issuers use it as a benchmarking security for their own issuance. So in a new issuance period for corporates, what you often do, if you're an IGPM is you'll take delivery of the new private sector bond by you know, so and so company, and then you'll sell your thirty year treasury or you'll short that point in the curve, and that's how you're
capturing the spread. That's a very normal occurrence, and that dynamic, you know, needs to build up at different points on the curve, and some points it's just not as useful. So it's very possible that the end demand, whether it's usage a benchmark security, whether you know, liability driven investors like pension funds that seek to immunize interstrate risk don't find it that useful, whether stripping activity around it is very limited. All of these things play into the overall
demand for the security. Now, Treasury does its best ahead of time to try to figure out whether that's going to be the case or not. It's had challenges of the twenty year and as it happened in the early nineteen eighties, when the twenty year program was canceled in nineteen eighty six, it too, you know, showed a humped curve where the twenty year traded cheap to the thirty year point. So yeah, it's certainly not been a resounding success.
It's also only been four years, and that's not a particularly long time from the perspective of a debt manager.
Yeah, just to that point, Tracy, it sounds like a lot of this is just sort of path dependency. Like if everyone's been doing thirty years and that's where you're used to benchmarking, then it could have been twenty years to begin with. But if it wasn't then it wasn't.
Well, I was just gonna say, that's where the gardening analogy is interesting. Right, You've tilled and planted and kept like this one area really sort of well nourished, and then you're trying to do it in an area that hasn't been there. It takes more time, and chances are it's probably not as fruitful. Immediately.
Thank you so much for coming back to gardening. I appreciate it.
Yeah, I'll get grief for this, I think so.
Joe mentioned the news story yesterday and the other thing that happened yesterday. Again, we are recording this on August eighth. It has been an absolutely torrid, we very dramatic week in markets, but we had a treasury auction that was pretty weak. I think was the consensus. What constitutes a bad day for someone working in treasury, Like, what can go wrong?
Good question?
Oh wow, A lot of things can sometimes go wrong. So you know, it was a three basis point tail on the ten year auction. That's actually not like, that's not great.
It's not a disaster. But I think most people they're already nervous and they see it.
But given the rally, you had in rate markets. You know, it's effectively saying at these levels there might be a little bit of reduced demand and the levels need to back up a bit. So this isn't something that would
cause anyone to particularly blink. If you remember around the Taper tantrum, that was a period of serious consternation because you were starting to see real weakness and tails in a series of auctions, and the fence communications around that time, whether deliberate or not deliberate, we're injecting substantial amount of volatility. So for individuals approaching auctions, price discovery of what things
should settle at was becoming very, very, very challenged. So that particular time was one where we were watching how these auctions were tailing. The more tails you have, the less efficient. By definition, your auctions are right like, you're gonna get them periodically. But if they're consistently tailing, or the flip side, if they're consistently coming through substantially through the when issue market, you're again saying that price discovery
is being challenged and it's not being transparent. So those are periods Treasury starts trying to figure out what's going on among the investor community. Is at external events, its exogynous.
You know.
Obviously the summer of eleven during the first downgrade, which is the first summer I started, and that office was that's like.
Joe and I starting financial journalism in two thousand and eight, Like August two thousand and eight.
That was a bad day, right, Like that was a bad summer for all intents and purposes. And oddly enough it actually didn't impact treasury demand one way or the other. Rates ended up actually rallying. But to treasury officials, it was the reputation and the pristineness of the treasury market that had been scratched be smirched, right, and they felt somewhat unfairly at that point. That was obviously a bad
day anytime around. Debt ceilings are bad days. Anytime you question the full faith and credit, those are bad days. Almost everything else. It means that, hey, you need to do a lot more work on thinking about are you really optimizing issuance for the lay of the land.
What causes structural demand for duration to change over time? I mean, I guess there's just sort of the economic cycle. And you know, again we understand what happened in March twenty twenty give me the most liquid thing in the world. But when you sort of like think a little bit longer, are there ways that people on markets or economists or whoever else try to project demand for duration? Why is there a particular and why now is there like people want the short end?
Yeah, I think many have tried to come up with what i'd call a long term demand framework for duration. I don't think anything has been particularly sound. You could argue demographics, but that's unclear. It probably has a lot more to do with policy rates and expectations around policy rates and growth and inflation. That tells you how willing people are to go out on the curve, and as well as like volatility, right, because the further you go out in the curve, there's more money at risk on
a per basis point a movement. So you could say in a narrow space, it's expectations of growth inflation as well as expectations of volatility like that would likely be the key driver for demand for duration. But there's a nuance to this. Are we talking funded or unfunded duration? Right?
So if I look at like the treasury curve, and then I look at like the swaps market, well, the swap markets trade through the treasury, you have negative swap spreads, so you could say synthetically, the swaps market is the market for unfunded duration right where you don't have to put as many dollars to work to get similar duration characteristics. And if you converted longer term treasuries into swaps, these
would be sofur plus instruments. And that's weird, Like this dynamics existed for a long time, but it's a strange dynamic because why would your risk free government security trade it so for plus not so for minus when you get out to the longer part of the curve. And the answer is is that there's balance sheet charges to putting that much money to work. Is one, So that impacts, you know, sort of the demand and differential between funded
and unfunded duration. The second is are there other things you'd rather do with your cash versus go buy treasuries, but yet you still need the duration. And this is the advent of the whole, the differential between futures and cash treasuries and the treasury basis trade. And it's typically that there's investment managers who want to own credit, long duration credit, but want to manage their duration synthetically via futures,
and that also causes that. And Stephen Kelly at Yale has written, you know, pretty authoritatively on this, and that could also be a signal for treasury. And it's a counterfactual to like a lot of the criticism out there of how could you say you should be issuing a lot more longer dated bonds when possibly the true price of duration is already telling you that the bonds you're issuing are not coming at the cheapest cost.
Yeah, this is something that I think gets lost in the conversation sometimes, which is like treasuries are not the only source of duration. And I'm about to throw in my third favorite topic, which is cooking. But like, if you are a fund manager, you're trying to like bake.
This is a labored analogy. You're trying to bake like a yield and duration, right, And like often the general recipe or the guidance that you're following is like you're trying to match and hopefully outperform some sort of benchmark, and there's like a degree of duration embedded in the benchmark.
And I remember at various points in time, specifically I think it was twenty fifteen, like there was an argument that like the FED was sucking up too much duration from the market because it was buying not treasuries but mortgage bond securities, and so no one could match like the hypothetical benchmark index. And so anyway, it's just a point, just an excuse for me to talk about baking.
I mean, it could have just been a common complaint. Normally the benchmark providers try to take out the securities owned by the FED, but there could have been operational issues in actually sourcing the cash duration that you need. So like, this is a real issue. And I try to think of this as there is no one lens that you look at lowest cost. Yeah right, there's multiple lenses.
And what Treasury actually steps back and says, if we keep doing like the job we're doing of trying to maintain a liquid ecosystem, will earn a liquidity premium over time, over years, over decades, versus, hey, we have a short wham or we have a long wham. And every time that experiment's really been done where they pick a wham purely for cost, it's not ended that.
Well, Amara Ganzi, thank you so much for coming on odd Lots. That was a really fantastic and cleared up a lot for me.
That was really fun. This is like an all time favorite episode of mine, given that we talked about gardening, interior design, cooking, and debt management. That's great.
Well, thank you for.
Having me, Tracy. I really like that conversation. I'll just start with one sort of big picture thought, which is I really I think this is an important point that he made, which is that even if you're just trying to solve for the absolute minimum interest payments over time, that that doesn't necessarily say you should always sell at the cheapest part of the curve because of the importance of that healthy ecosystem, which is a long term thing.
Yeah. I've got three takeaways from that conversation, which was very fun. But number one ties into what you just said. So this idea that a government is different to corporate. Yeah, and if you are a company, you're probably trying to turn out your debt at the lowest possible cost, and to some extent, the government will be trying to reduce interest expenses. But on the other hand, it has to take into consideration the entirety of the curve and the
fact that it is actually providing a benchmark for other borrowers. Yes, And then the second takeaway is that reflexivity point, So the idea that as soon as you start issuing something, you can have an impact on the curve itself. And so the goal for the Treasury is really to be
as risk neutral as possible, as Amar was saying. And then I guess the third thing that was really interesting to me was the relationship between the Treasury and monetary policy or the central Bank, and this idea that like, Okay, maybe treasury issuance could have an impact on financial conditions, but it's not like the FED is helpless here, and the FED has other tools that it could use to offset changes in the curve.
Totally, I thought that was a really excellent and useful point. It's like, yes, okay, there are in this sense that there are times when the Treasury is issuing in such a manner that could be cross purposes with the FED. But the question of whether it's like activist or has
some sort of motives. One way to test that is like, is it still being done in a sort of predictable manner that was laid out in advance, right, And so we want a FED that reacts very quickly to market data and changing conditions and all that, And so we give the Fed a broad leeway to sort of change its mind whatever it wants. And that's part of the
institutional arrangement. If we started seeing that from the Treasury, where it's suddenly, you know, dramatically changing the auction schedule from one quarter to another or inter quarter emergency, you know, I guess that could be a thing that sort of would be the test of like whether it's like activist or not.
Joe, can I say one thing please? I'm waiting to the very end of this conversation to say this because hopefully no one will hear it. But if you think about, like what analogy are you going to say? Now, well, no, okay, I'm done with analogies. But if you think about the skepticism that has recently emerged, you know, courtesy of this Rubini and mirror paper around something as sort of like
boring and prosaic as treasury issuance. Yeah, imagine what would happen if there was that trillion dollar coin.
Oh yeah, Well, by the way, listeners should check out our great Bloomberg reporter. He's like a Foya guru. He gets all these great documents. Jason Leopold actually got some documents about the DOJ's commentary on the trillion dollar coin. So August second, go check that out from Jason. You know, you made the point earlier about everyone, you know benchmarking, and this is really important too because with that Manuchin piece, so it's like, well, maybe the twenty year is not necessary.
It's like thirty year treasury. It's like it's all kind of arbitrary, right, Like it could have been a twenty nine year, could be thirty long, but we like round numbers for whatever reason, corporations benchmark off of them, etc. Like it could have been that the longest part of the curve was the twenty year, and then there would be this long standing practice of then corporations would likely
be benchmarking their long endiituents from the twenty year. But it really does speak to these sort of again, the ecosystem point, the path dependency point, the stability point, the consistency point, that what you've been doing for a while on some level should be the benchmark for what you're going to do next.
You know, an interesting thought experiment is to think what financial markets would look like if humans weren't like predisposition to like ground numbers. Oh, like what if everything instead of the ten year? Like what if the benchmark was I don't know, a nine or eleven year. I wonder how much difference?
Right, Like, if we were a species that had nine fingers or twelve, then we would not be likely using base ten as our monetor as our numerical system. And you know this is very you This could be an interesting sci fi sci fi story about a species that has a very developed financial system but they have fifteen fingers and how it emerged in the US Base fifteen.
Joe, we're onto my fifth favorite subject, science fiction, which comes after debt management. No, I think we should leave it there.
Let's leave it there.
Okay. This has been another episode of the All Thoughts podcast. I'm Tracy Alloway. You can follow me at Tracy Alloway and.
I'm Jill Wisenthal. You can follow me at the Stalwart. Follow Amar Raganti. He's at Omar Raganti. Follow our producers Carmen Rodriguez at Kerman Arman, Deash Bennett at Dash Bennett, and Kelbrooks at Kelbrooks. Thank you to our producer Moses on and for our Oddlots content go to Bloomberg dot com slash odd lots, where you have transcripts, a blog in a newsletter, and you can chat about all of these topics with fellow listeners in our discord at discord dot gg slash odd lots.
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