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James Turk: Gold breaks out against the euro
Treasury Sees 'Market Dislocation' in 2012 Notes
By Vincent Del Giudice
Bloomberg News Service
Wednesday, September 14, 2005
http://www.bloomberg.com/apps/news?
pid=email_us&refer=top_world_news&sid=anxxmDxfTCfM
WASHINGTON -- The U.S. Treasury, concerned about a possible "market
dislocation" in the 4 3/8 percent note due in August 2012, ordered
any firm holding more than $2 billion of the security to report
their positions.
The Treasury, one of the regulators in the $4.1 trillion market for
U.S. government debt, wants to avoid any disruption that may occur
because one investor holds too many notes. Traders are willing to
risk losing money to obtain the security because it is the cheapest
that can be used to fulfill the $36 billion of futures contracts
that come due on Sept. 30.
The request was prompted by an increase in the number of firms that
borrowed the note and failed to return it, said a Treasury official
who briefed reporters on the condition of anonymity. The last time
there was concern about a shortage of Treasuries eligible to settle
futures contracts was in June, when a record $14.2 billion of notes
were used to meet the obligations.
"This is a warning shot in people's foreheads that if there's a
squeeze this time, recess is over," said Howard Simons, a Chicago-
based strategist at Bianco Research LLC. "They are saying, 'If we
think you've done anything questionable, we are going to yell and
scream your name all over the place.'"
This is the first time the government asked for "large position
reports," said a Treasury official who spoke on the condition of
anonymity. The reports are due Sept. 20 for positions held at the
close of business on Sept. 12, the Treasury said.
The Chicago Board of Trade is regulated by the Commodity Futures
Trading Commission. The Treasury, the Securities and Exchange
Commission, and the Fed regulate the market for Treasury securities.
Washington-based CFTC spokesman Alan Sobba didn't immediately return
calls seeking comment. Chicago Board of Trade spokeswoman Maria
Gemskie declined to comment.
So-called fails occur when a trade doesn't settle on schedule, with
one side failing either to receive or deliver the security. More
than $530 billion of Treasuries trade daily, according to Federal
Reserve statistics.
While there are $19.6 billion of 4 3/8 percent August 2012 notes,
traders can use any of 13 Treasuries with about $314 billion
outstanding to fulfill the September futures contract. The contract
closed yielding 4.47 percent at 2 p.m. in Chicago.
Futures are agreements to buy or sell securities at a set price and
time. Ten-year Treasury note futures expire in March, June,
September, and December. Expirations traditionally generated little
interest because traders usually extended their bets, or rolled the
futures, into the next quarter instead of demanding notes to fulfill
the contracts.
Pacific Investment Management Co., manager of the world's largest
bond fund, had Treasuries delivered to fulfill its June futures
contracts, Bill Gross, the firm's chief investment officer, said in
an Aug. 10 interview. Gross didn't return calls seeking comment.
The $36 billion of outstanding September futures is almost twice the
$18.6 billion of June contracts outstanding a week before trading of
those ended on June 21. Open interest in September contracts
declined from $181.8 billion on July 21.
There are 16 more days to settle the futures contracts. The Chicago
Board of Trade will impose rules in December that limit traders to
holding no more than $5 billion of 10-year note futures contracts in
the last 10 days of its life.
The 2012 note yielded 4.02 percent, up from 3.75 percent on June 30,
according to data compiled by Bloomberg. The note is likely to
remain under scrutiny because it is also the cheapest Treasury to
deliver for the December futures contract.
So many traders want the note that they are willing to lend money at
0 percent overnight in exchange for temporary ownership. The so-
called repurchase, or repo, rate is 0.35 percent until Sept. 30, the
last day they can deliver securities to fulfill futures contracts.
In repos, firms sell securities for a given period to raise money to
finance positions in Treasuries. In a reverse repo, they borrow the
security and lend money. The market for repos exceeds $5.6 trillion,
Fed data show.
"The Treasury is doing the prudent and proper thing with this
position call to find out who owns them and who is or is not lending
them out in repo," said Gerald Lucas, chief Treasury strategist at
Banc of America Securities in New York, one of the 22 primary
dealers of U.S. government securities that trade with the Federal
Reserve Bank of New York.
"If the Fed can find someone who owns the issue and is not lending
it out, perhaps it can entice this owner to lend it out, thereby
increasing the deliverable supply. That would definitely help with
the delivery process."
The New York Fed lent primary dealers $950 billion of the August
2012 note today, and $1.175 billion yesterday. The New York Fed can
lend up to 65 percent of the $2.866 billion it holds of the note to
alleviate shortages in the market. On Sept. 12 the New York Fed lent
$1 billion of the notes.
"This has a chilling effect," Bianco's Simons said. "You may start
to lower the utility of the bond futures contract as a trading
vehicle," because traders may be concerned they may be forced to
sell positions in underlying assets if they hold what's deemed to be
too much of it.
The spotlight on Treasury note futures is an example of the
increasing influence of derivatives, contracts whose values are
derived from financial obligations such as stocks or bonds. Treasury
futures are exchange-traded derivatives.
Trading in the contracts doubled in the past three years as
investors used them instead of the underlying securities to make or
reduce bets in the bond market.
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