Supply and Demand According to Treasuries


The Federal Reserve ended QE and has now decided to let select balance sheet residents mature without reinvestment. This essentially means that the demand for treasuries, when they come up for renewal, should be lower. This would indicate a higher yield as there is less pressure bidding up their price. On top of this, the reflation theme that seems to exist in Washington should move these yields even further up. Why?

When a government runs a fiscal deficit, in which it spends more than it pulls in from taxes, they must borrow. If the US government budget deficit stays the same, as the situation above, it will have to borrow to stay in operation. If it decides to borrow more than it currently is, as expected, it will need to issue even more debt. This should mean that the supply of Treasuries will go up.

In a nutshell, the demand will likely be going down in the future due to the lack of interest from our local central bank, while the supply may go up due to egregious spending in the capitol. In short, it seems like daunting days ahead for those expecting returns-as-usual in the US Government bond market. On a side note, this may cause the diversification benefit on these bonds to diminish in a portfolio context. The Central Bank experiments have likely diminished the usefulness classic ideas for the foreseeable future(which, for the record, is a terrible expression).