Investors seen queuing up for new U.S. 20-year bonds, backstopped by Fed

(C) Reuters. Morning commuters are seen on Wall St. outside the NYSE in New York

By Gertrude Chavez-Dreyfuss

NEW YORK (Reuters) – Investors are likely to snap up 20-year bonds when the U.S. Treasury sells them on Wednesday for the first time in more than three decades, pulling out all the financing stops to mitigate the economic havoc from the coronavirus pandemic.

In the biggest confidence booster, the Federal Reserve has bought $1.5 trillion in Treasuries since mid-March, hoping to stabilize the more than $17-trillion market after it seized up during the pandemic. It has been buying both short-term and long-term debt, but tapered purchases this week to a daily average of $6 billion, from $7 billion the previous week, as liquidity improved.

Treasury will initially offer $20 billion 20-year bonds and will sell a total of $54 billion over the next three months. The last 20-year was sold in 1986.

“There’s demand for all bonds at this time because the Fed has created the backstop. They’re the buyer of last resort,” said Patrick Leary, chief market strategist, at Incapital.

Solid demand at last week’s auction of U.S. three-year and 10-year notes, as well as 30-year bonds augured well for the 20-year bond sale.

“I don’t see any reason why the 20-year won’t go just fine,” Leary said.

All three auctions showed higher participation from indirect bidders including foreign central banks.

“If surging issuance leads to undesirably high term premiums at the long-end of the Treasury curve, the Fed will quickly ramp purchases back up to squash them,” said Ryan Swift, U.S. bond strategist at BCA Research.

LOWER HEDGING COSTS

The auction could draw good interest from foreign investors. As the Fed cut U.S. interest rates to near zero, their costs have dropped for neutralizing currency exposure of owning dollar-denominated assets.

Prohibitive hedging costs had deterred some foreign investors in Europe and Japan from buying U.S. assets because returns eroded as dollars were converted back to their home currencies.

A Japanese investor buying U.S. 30-year Treasuries, would pick up a yield of 51 basis points, compared with 45 basis points when he purchases Japanese government bonds, according to Barclays (LON:BARC) data.

For a European investor, buying 30-year Treasuries shows a yield pick-up 48 basis points, and for UK investors, the yield is 117 basis points.

“The Japanese will buy the 20-year,” said Zoltan Pozsar, managing director at Credit Suisse (SIX:CSGN) in New York. “Buying the 10-year on a hedged-basis is profitable, but not that profitable, so the 20-year will price for a better yield.”