5-year treasury cheapest in years after selloff

The five-year treasury yield hit a multi-year high relative to the average of the two- and the ten-year rates (the 5-year treasury is cheap on a relative basis). The chart below shows a measure of how "concave" the treasury curve has been over time (negative indicates the curve is convex).

2 x (5yr yield) - (10yr yield) - (2yr yield) 

Given that the five-year tenor is sensitive to the trajectory of the Fed's rate policy in the intermediate term, this is where we should see quite a bit of volatility (see post).  We've come a long way from the days when the 5-year treasury was highly overpriced relative to the rest of the curve (see story from 2012) and the market was pricing in "perpetual" QE.

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Markets dismiss the risk of higher rates inhibiting growth

Many continue to argue that the rate normalization taking place now will slow business activity in the US. Good luck betting on that however. There is no question that corporate America had benefited tremendously from extraordinarily low rates. Many US firms have locked in these rates over the past couple of years by refinancing - interest expense savings that go directly to the bottom line. But what will happen now as rates "normalize"?

One approach is to see what the markets are telling us. To start, let's look for example at the 5-year tenor where a great deal of corporate America borrows. Over the past year, the 5-year treasury yield has almost tripled.

Source: Investing.com

The markets however do not seem to imply slower growth. For example one indicator of corporate activity expectations is the Dow Jones Transportation Index (DJTI) - the oldest equity index that is still in use (launched in 1884). Increased transport usage is thought to precede improvements in industrial activity. When the DJTI outperforms the Dow Jones Industrial Average, the market is expecting stronger corporate performance going forward. And in spite of significantly higher rates (chart above), the DJTI outperformance has been quite pronounced.

Source:Ycharts

Some would say the markets are undergoing a bout of Greenspan's "irrational exuberance". Perhaps. But here we are not talking about the market's lofty absolute levels - only the transport shares' outperformance. Other cyclical shares have been outperforming as well (see chart).

At the same time the current treasury yield curve shows the 5-year yield to almost double over the next two years based on implied forward yield (see methodology). Significant rate increases are therefore already priced in. This tells us that at least for now the markets don't view higher rates (rate normalization) as inhibiting growth.

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Shifting focus in the treasury markets

Treasuries once again experienced what amounts to a sharp curve flattening in recent days. The market action resembled what took place after the initial announcement of taper back in December (see post). The yields in the "belly" of the curve have risen sharply as the market prepares for rate "normalization".

Treasury yield moves from close of 3/7/2014 to close of 3/21/2014

MarketWatch: - The yield curve’s violent reaction to the Federal Reserve on Wednesday shouldn’t be thought of as a first-day fluke by Chairwoman Janet Yellen. Rather, the rise of intermediate-term Treasury yields is one step in a monetary policy normalization process that will characterize the rest of the year, according to mammoth investment management firm BlackRock.

If last year was all about longer-duration Treasury yields moving higher — the 10-year Treasury yield rose more than a full percentage point and now trades at 2.78% – this year is all about the rise at the front end of the curve, according to Rick Rieder, chief investment officer of Fundamental Fixed Income for BlackRock.

“I think this is a very different year for managing fixed income,” he said in a press briefing Thursday.

The MarketWatch article proceeds to describe in detail how rates had moved this year vs. last year. It all however comes down to a single chart which shows daily treasury yield volatility across the curve this vs. last year. A picture is worth, well you know...

Market focus is shifting from taper to the near-term trajectory of the overnight rates, which is impacting the intermediate and shorter maturities. The first rate hike, while still some time away, is becoming a reality.

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Fed's taper and weaker foreign participation will leave domestic investors with higher proportion of treasury purchases

In a couple of earlier discussions (here and here) we talked about a significant buildup of treasury short positions. Since then there are indications that a few of the larger direct players have been covering their short bond exposure, pushing treasury yields lower. If the emerging markets contagion (discussed here) persists, more short covering is expected.

But what about the longer-term outlook for treasuries? As the Fed cuts its buying program, we are left with two major categories of purchasers - foreign and private domestic. Foreign buying is directly linked to growth in current account surplus of key US trading partners, particularly in Asia. And while nations like China and Japan hold enormous amounts of US government paper, it's unclear if they will return to the volumes of purchases from 5 years ago. For example the explosive growth in China's current account surplus through 2009 is no longer there, which should translate to a more modest rate of treasury buying.

Other emerging economies are not faring much better and in fact many are struggling to maintain export growth. As a result fewer dollars on a relative basis will be available to buy treasuries.

The other group of foreigners who have been buying significant amounts of treasuries are the oil exporters. In fact some research links growth in the so-called "petrodollars" (proceeds from energy sales) to higher treasury purchases. But as the US reliance of foreign oil declines, fewer petrodollars should result in relatively smaller purchases of US bonds.

This means that foreign purchases of treasuries are unlikely to grow significantly from current levels. That leaves US domestic investors to pick up the slack left behind by the Fed and foreign buyers. Based on the projections from Sandler O’Neill, domestic buyers will be called upon to buy an increasingly larger share of government paper going forward.

Source: Sandler O’Neill (click to enlarge)

Rising yields in the intermediate and possibly longer term is an inevitability - the only way to attract domestic buyers to this growing supply.

Sandler O'Neill: - In light blue [in reference to chart above] we see the episodic role of foreign purchases, driven heavily by emerging markets’ swelling reserves as trade and current account surpluses exploded until 2006, followed by industrial market buying to escape several phases of the euro crisis. Contemplating the chart carefully. domestic private purchases in dark blue must now take up substantial net demand slack.  ... domestic private buying (retail and institutional) must essentially quintuple back to their levels during the financial crisis. This seems unlikely without additional yield

And it's not just the longer term rates that will increase as the result of this shift to private domestic buyers. Sandler O'Neill points out that as the longer term rates rise, the Fed will be forced to raise the overnight rate. This may end up being less about the US employment situation and more about keeping the yield curve "steepness" (see post) from becoming extreme. One of the reasons short term rate adjustment will be an  imperative is the risk of a new buildup in the so-called carry trade.

Sandler O'Neill: - This also leaves a quandary for short term interest rate policy. Should the 10-Year reach 4%, the spread over Fed Funds will be confronting its well-defined historical peak. In our view, the Fed would be highly likely to adjust the policy rate upwards in this situation to avoid further market distortions and a potential explosion in carry trade and other counterproductive rate arbitrage activity. If this is correct, short term interest rates might no longer be simply anchored to employment metrics.

The Fed's taper, combined with weaker foreign purchases of treasuries, will leave private domestic investors to take on an increasingly larger portion of treasury purchases. The only way to attract more domestic buyers is with higher yields - which will ultimately result in rising rates across the curve.

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Is the treasury curve artificially steep?

The treasury yield curve remains quite steep by historical standards. Typically such steepness is driven by expectations of higher inflation in the future. But as discussed earlier, that is not the case in the US (see post). Instead it is the expectation of the Fed's "taper" that has been influencing the shape of the curve. Measured as the difference between the 10-year and the 1-year yield, the US curve is now steeper than those in most developed economies, including Canada, Germany, France, the UK, Japan, and Australia.

The only developed economies with steeper government curves are in the Eurozone periphery - the result of lingering credit concerns.

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The big steepener unwind

Since the Fed announced the reduction in securities purchases ("small taper"), the treasury curve has undergone some strange adjustments. Here is what the impact has been since the close on December 17th. Why would the 5-year note sell off the most while the long bond rallied?

The answer has to do with how the market was positioning prior to this event. Many traders had two expectations:

1. Taper is coming next year and the impact should raise long-term rates
2. The Fed will keep short term rates near zero for a long time

The trade that takes advantage of this view is the so-called "steepener" trade - long short-term treasuries and short long-term treasuries. And that's how the market was positioned going into the announcement. But a combination of the "early" taper, stronger than expected economic data (below), and a less than stellar 5-year note auction made some question the #2 assumption above.

Source: Investing.com

After what we've seen over the past five years it is difficult to imagine this scenario, but what if the US economy unexpectedly accelerates? The Fed will be forced to begin pushing short-term rates up faster than originally expected. The market started to price in a higher probability of just such an event. As an illustration, take a look at the June-2015 fed funds futures contract. The steepener trade had pushed the first rate hike expectations further out in time (higher futures price = lower expected fed funds rate). But the announcement, combined with improved economic data, forced a selloff in the contract - with the market now expecting the first hike by the middle of 2015.

This earlier-rate-hike scenario impacts shorter-term treasuries more than it does longer-dated notes/bonds. The adjustment in expectations forced an unwind of the steepener trade, creating the "flattening" move in the yield curve we see in the first chart above. Anecdotal evidence suggests that this unwind ended up being quite painful for a number of market participants who had piled into the trade.

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Is the treasury sell-off overdone?

ETF Trends recently published an article called "Treasury ETFs: The Ultimate Contrarian Trade" (here). It seems that from the near-term technical perspective, treasury yields may have peaked. That is certainly possible, as portfolio managers - including some sovereign funds and other foreign institutions - have been indiscriminately dumping US government paper each time they hear the word "taper". One can even see the public's strong focus on the topic: the search frequency for the term "tapering" on Google has spiked to record levels (chart below). Furthermore, as the article points out, only "23% of investors are bullish on bonds" - the lowest level since early 2011. This has the makings of a contrarian indicator.

Source: Google Trends

But what about the fundamentals? Where should the 10yr yield be if for example Goldman's recent forecast (see post) of roughly 3% nominal GDP (1.8% real) for Q3 persists for much longer? - not an unrealistic scenario. It turns out there is a long-term relationship between treasury yields and preceding GDP growth. The correlation is not that strong (r^2 =0.4), but thankfully this is a blog post instead of an academic publication.

The quarterly data is from 1962 to today and the points in the negative GDP territory are from the Great Recession. One can see that the Fed (as well as the Eurozone crisis to some extent) had recently pulled the yields down from the more "natural" level. Based on this fit, the 10y treasury should be yielding about 4%. This was roughly the situation during the recovery from the 2001 recession - a 3% trailing nominal GDP and a 4% treasury yield. It tells us that based on long-term history and without the Fed's interference, we could easily go up another 100bp on the 10yr - in spite of tepid GDP growth.

The Fed however will be in play for some time, even as it slows the pace of purchases. It is therefore possible that the oversold technical indicators described by ETF Trends may indeed be valid in the near-term - at least while the Fed continues to apply downward pressure on yields - and growth remains subdued. We could stay just above the "QE3 cluster" on the scatter plot.

ETF Trends: - “This isn’t to say Treasury yields will nearly undo their entire surge this year or that they won’t eventually climb above 3% in response to expectations of a less-generous Fed or a pickup in economic growth,” [Michael Santoli] notes. “But for now, the yield advance has arguably overshot, and the sectors pummeled as a result have suffered from investors planning for a rapid and relentless climb in rates that isn’t likely to happen.”

A pullback in 10-year Treasury yields here also makes sense from a technical perspective. Chris Kimble at Kimble Charting Solutions points out that the rally has lifted the 10-year yield to the top of its long-term channel resistance, while momentum is the most overbought [on yield basis, oversold on price basis] in seven years.

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Steepening periphery curves combine need for yield with increasing sovereign risks

As discussed in the previous post the ECB's move to set the deposit rate to zero has pushed the short end (2 years and under) of the German curve into negative yield territory.

Desperate to earn non-zero yield on their cash, some investors have decided that Italy is not going broke in the next few months and bought short term Italian paper. In that sense the ECB accomplished its goal of pushing investors into riskier assets, but only at the short end of the curve. Because at the same time the realization that the EU summit euphoria was premature has pushed the longer term yields higher, negating the ECB policy action.

The situation was far worse with Spain as only the 3-month bills benefited from negative German yields - with Spain's 3m yield falling below 2%. Yields on the longer maturities increased substantially, as the 10-year note is once again pushing toward 7%.

So this is the extent of the ECB's success in the recent policy action. Other than rolling very short maturities at lower rates, Eurozone periphery government financing is becoming increasingly more expensive.

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To see China's slowdown in "real time", just watch their interest rates

PBoC, China's central bank, is having trouble stimulating lending. The trouble now seems to be more demand driven, as the economic slowdown sets in.

Bloomberg: - Combined net lending by Industrial and Commercial Bank of China, China Construction Bank Corp., Bank of China and Agricultural Bank of China Ltd. was almost zero in the two weeks through May 13, Shanghai Securities News reported today, citing an unidentified person familiar with the matter.

The slowdown (particularly the lack of demand for loans) is driving interest rates lower. The one-year SHIBOR swap rate is registering the sharpest decline since 2008. Again, swap rates show the market "consensus" of short term-rates in the future - a rate at which someone is willing to "lock in" short term rates for a year or longer (in this case locking in the 3-month SHIBOR rate for a year).

1-year SHIBOR swap rate

When we discussed China's inverted yield curve a couple of months back, many dismissed it as supply/demand aberration. But as has been the case in the US, an inverted curve continues to be the best predictor of economic downturns.

SHIBOR swap curve move

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Absolute vs. relative volatility of rates

Risk measurement models often attempt to project the behavior of the yield curve based on historical rate movements. But the assumptions that go into such modeling could often produce misleading results. Here is why.

The chart below shows the recent historical volatility of yields along the US treasury curve. These are the standard deviations of weekly rate changes in basis points over the past 16 months (from 1/1/11 to today). The historical volatility curve shown here makes sense intuitively, with longer term yields being absolutely more volatile than the short term yields.

Absolute weekly historical volatility of rates from 1/1/11 to 4/27/12 in basis points

But that's not the whole story. An alternative way of looking at rate volatility is on a relative basis. That would be the change in each rate as a proportion of the rate at the time. For example if the 10-year rate is 2% and it moves by 10 basis points, the relative move would be 5% (10bp/200bp). This model tells us that if the 10-year rate becomes 4%, the equivalent move would be 20bp (5% of 4%). As rates rise, so do the expected moves in basis points. The shape of the relative historical volatility is shown below and has the opposite slope of the absolute volatility. This is also fairly intuitive because even small rate moves at the short end produce large relative moves with rates being close to zero.

Relative weekly historical volatility of rates from 1/1/11 to 4/27/12

(% of rate) 

Which one is the correct approach to model movements in interest rates? Rate movements are not like stocks for example that can almost always be modeled using relative moves (lognormal distribution). But using absolute movements is not always correct either because a 10bp move in the 2-year rate in 2006 was routine but would be considered a huge and far less likely move now when short-term rates are near zero. The reality is somewhere in-between.

Also the shape of the rate volatility curve has not always been the same. The charts below show the same results for the 2006-2007 period (unfortunately the 1-year and the 7-year data was not available for that period). Not only is the absolute and the relative volatility far smaller than the current levels, but the volatility curves are both relatively flat (in part due to the flat or inverted yield curve during that period).

Absolute weekly historical volatility of rates from 1/1/06 to 4/27/07 in basis points

Relative weekly historical volatility of rates from 1/1/06 to 4/27/07

(% of rate) 

So the next time your risk manager shows you a VAR number of a rate product portfolio, ask her which volatility and term structure assumptions as well as the historical periods were used. The answer could make all the difference.

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Comparing Italy's and Spain's yield curves

Spain's yields are lower than Italy's at the short end but higher for all the longer dated bonds. It's worth understanding the reasons for this "inflection" in the curve differential.

Italy (orange) and Spain (white) sovereign yield curves (Bloomberg)

Here are some facts:

1.The target bond sales for Italy and Spain in 2012 are given here.

Reuters: Experts estimate Spain needs to raise about 177 billion euros gross in 2012. This compares with Italy's plan to raise 450 billion euros in gross terms, including bills and bonds.

Note that these are gross numbers including rolling short term bills more than once per year.

2. A large portion of that issuance is short term, (in particular Italy has a massive amount of short term bills to roll).

3. According to BNP Paribas, Italy has sold about a third of the paper targeted for this year. Spain on the other hand has managed to sell nearly half.

That means that in the short term, Italy's bonds will dominate the supply (particularly bills), putting some upward pressure on short term Italian yields. But in the long run the market believes that Spain presents a materially greater risk than Italy.

Update: Please see some insightful comments by Rik and Kostas Kalevras

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The new Greek yield curve

The Greek PSI (new) bonds are now actively quoted. Prices vary with maturities - roughly between €17 and €25 (17 to 25 cents on the euro). Here are the latest mid quotes by maturity.

Latest quotes on Greek PSI bonds

Using Bloomberg these can be converted to yield, producing the following yield curve. This is a unique sovereign curve even for a distressed name because it starts in 2024, with nothing actively quoted prior to that.

The new (post-PSI) Greek yield curve (Y-axis = yield in %)

It is naturally an inverted curve that is pricing in a significant probability of a second default. Depending on the recovery assumptions, the probability of default priced into these bonds in the next 10 years is near certain (the higher the recovery assumption, the higher the implied default probability). Being subordinated to the EU/IMF rescue loans, these bonds don't stand to recover much the next time around.

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Is China's inverted curve a sign of worsening economic conditions?

In the US an inverted government bond yield curve tends to forecast a recession. An inverted US yield curve has predicted a worsening economic situation in the future 6 out of 7 times since 1970. Here is what the curve looked like 5 years ago, in March of 2007.

US treasury curve on 3-2007 (Bloomberg)

And as usual the forecast was correct and the US recession officially started in December of 2007 (although the disruption in bank funding markets started much earlier). Inverted curves of course could also indicate a stressed sovereign credit, but as long as there are no immediate issues with the credit, inverted curves typically indicate a risk of worsening economic conditions.

Here is China's government yield curve today.

China government curve now  (Bloomberg)

The inversion also exists in China's corporate curves. Some analysts point to lack of supply in longer term paper and other reasons for this inversion. But analysts were also putting forward all sorts of explanations of the inverted US curve in 2007 - some of these explanations had nothing to do with recession risk. And we all know how that turned out.

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Treasury yields likely to rise in 2012

This week we finally saw a sell-off in longer term treasuries after a relentless rally. With a great deal of new supply hitting the market, US treasuries will be under further pressure going forward.  Here are six reasons that make higher yields more likely in 2012:

1. In 2010 the onset of QE2 pushed treasury yields lower (within a month of the Jackson Hole announcement the 5yr yield was lower by 16bp).  As discussed earlier however, the probability of a quantitative easing redux has declined markedly.

2. Operation Twist which has been providing support to longer term treasuries is expected to end this summer.

3. Many managers who were short or under-invested in treasuries (such as PIMCO) have capitulated, as treasuries continued a powerful rally in 2011. Investors have been trying to short US treasuries for some time with the view that QE programs will ultimately debase the dollar and accelerate inflation. These projections did not materialize and the capitulation trade caused treasuries to rally further. The chart below shows shares outstanding of the ProShares Treasuries 20+ Year UltraShort ETF (ticker: TBT). It allows investors to easily short longer dated treasuries on a leveraged basis. The capitulation trade is clearly visible in the decline of the number of shares outstanding.

TBT shares outstanding (Bloomberg)

The Long Bond became known in some trading circles as the "widow maker" because of the losses numerous traders endured trying to short it. Many have since said "no more!"  Now with fewer shorts in the market, there will be less support for treasury prices going forward.

4. Treasury yields have decoupled from "risk assets" such as equities. This is unlikely to be sustainable going forward.

5. Between the Fed's Liquidity Swap and the numerous actions by the ECB, the funding pressures in the eurozone have receded materially. Yet treasuries have not adjusted accordingly. The chart below compares 10-year treasury yield with the 3-month EUR/USD basis swap rate.

10-year treasury yield vs. EUR/USD 3m basis swap spread (Bloomberg)

6. Even though foreign private investors continue their love affair with treasuries, it seems that foreign central banks may be losing their appetite for US government debt. Treasuries holdings at the Fed by foreign central banks are showing declines.

Foreign banks' holdings of US treasuries at the Fed  (Bloomberg)  

There is no shortage of new supply, as the US Treasury is expected to hit the market with net new issuance of about $81bn/month excluding what the Fed is expected to purchase (see Businessweek - forecast by Credit Suisse). Clearly an unexpected shock in Europe could trigger a new rally in this market, but absent such an extreme event, longer term treasury yields should rise in 2012.

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Operation Twist update

Part of the explanation for the strength in the longer term treasury markets continues to be Fed's Operation Twiest

Businessweek: “The Fed purchases were constructive for the market, especially in a low-volume environment,” said Ian Lyngen, a government-bond strategist at CRT Capital Group LLC in Stamford, Connecticut.

The chart below shows net purchases and sales (market values) of treasuries by the Federal Reserve since October 3d.  They've been targeting the 7-year, the 10-year, and the 30-year treasuries (including TIPS) against the 2 and 3-year notes.  Some of their rationale for the program was to bring down mortgage rates, a goal that was accomplished in part by the eurozone crisis that strengthened the dollar and created demand for treasuries.

Operation Twist: Fed's purchases and sales (market value, not notional) of treasuries by maturity ($ billion) - including TIPS

Operation Twist is expected to end in June of this year.  To the extent we have any sort of stabilization in Europe, some of the flattening of the yield curve we've seen in the last six months will be reversed in anticipation of the program's end.

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Inverted Italian yield curve spells trouble

A distressed credit tends to exhibit the so-called "inverted yield curve".  The reason is that in a bankruptcy the bond maturity generally does not matter - all pari passu (same seniority) paper tends to have the same recovery (thus the same discount).  If you apply the same discount to shorter maturity paper, it will generally have higher yield (depending on the coupon) than the longer term bond from that issuer.  Distressed bonds are said to "trade on price" rather than yield.  For example a 10-year bond with a 5% coupon trading at 80 cents on the dollar would yield 8% (you can check this using the YIELD function in Excel).  A 2-year bond with the same coupon also trading at 80 would yield 18%. Thus we have an inverted yield curve.  This also holds true for inverted CDS curves.

So why did we start this beautiful Black Friday morning with a discussion of inverted yield curves?  Because Italian government bonds are now trading in that fashion. Of course one can get an inverted curve, as was the case in the US in 07, due to expectations of falling short-term rates.  That's why a traditional inverted yield curve tends to forecast a recession.  But for the first time we get an inverted yield curve in a major sovereign nation (not counting Greece) due to credit risk - with significant probability of default priced in.  This morning's auction of short-term Italian bonds was a disaster.

Bloomberg: The Italian Treasury paid 6.504 percent to auction 8 billion euros ($10.6 billion) of the six-month debt, almost twice the 3.535 percent a month ago and the highest since August 1997. Italy’s two-year bonds yielded a euro-era record 7.82 percent, almost 50 basis points more than 10-year notes.

 We now have over 100 basis "inversion" between the 1-year and the 10-year Italian bonds.

Italian government yield curve - now and a month ago (Bloomberg)

This is a dangerous development because as discussed before it will put further pressure on European financial institutions (including French and German banks) who hold a great deal of Italian debt.  Deutsche Bank is the one to watch in particular, given its size and leverage.   It will also completely "crowd out" Italian corporations from rolling or obtaining new loans.

Spain's yield curve shows desperation

As Spain struggled to sell short-term debt this morning in an auction that showed how desparate the situation is becoming, the bond spreads to Germany hit a new high.

5-yrs Spain to Germany spread (Bloomberg)

Spain's government bond yield curve has flattened dramatically in the last month, approaching inverted levels. This curve now looks like a junk/stressed corporate credit curve.

Spain Government Bond Yield Curve - now and a month ago (Bloomberg)

These levels are not sustainable as the government's interest expense will spiral out of control and corporations simply will not be able to borrow. What adds fuel to the fire here is that Spain's unemployment rate is 21.5% with some 5 million unemployed. Restructuring/default seems inevitable.

The inverted T-bill curve - an anomaly or a signal for another downturn?

The 3-month T-bill yield has collapsed to new lows, yielding half a basis point.




That means if you plow a million dollars into 3-month bills right now, in 3 months you will walk away with your million plus about 13 dollars. After inflation is taken into account, you are down about $3,000 (depending on the assumptions). Why would anybody do this?

Trading desks everywhere are told - we are done for the year. We've made out money for the year; let's bring it home. Unwind as much risk as you can before year-end. And all that cash is flowing into T-bills. Except that people don't want the 1-month bill because it will mature before year-end. There is much less liquidity at the 2-month point. That means the 3-month bills are the only game in town for short-term liquid riskless paper, even if the yield is zero (negative real rates).

That bid for the 3-month paper has created an inverted T-bill yield curve.



It's a strange phenomena because this curve implies negative forward rates (so much for the so-called "arbitrage-free" interest rate models). This means the market sees short term yields going negative before the end of the year (this happened in Japan a few years ago). One way to interpret this is the market is anticipating the economy to get worse before it gets better - possibly weak holiday sales. Another is simply a sudden drop in risk appetite through year-end.

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Get ready for a sharp curve steepening

The US Treasury has been issuing enormous amounts of bills to finance the administration's efforts, keeping the average maturity of debt low. But it's all about to change:

Bloomberg: After selling $1.9 trillion of short-term securities to finance President Barack Obama’s efforts to end the worst recession since the 1930s, the Treasury plans to lengthen the average due date of its outstanding debt to 72 months from a 26- year low of 49 months. That may mean boosting sales of 10- and 30-year bonds by 40 percent over the next year to $600 billion, according to FTN Financial in Memphis, Tennessee, driving down prices of longer-term securities.

The Treasury is thinking that while the demand is high, let's term out as much debt as possible. The US government has effectively taken a 4-year mortgage from the world and is about to try rolling it into a much longer mortgage.

But this increase in duration will coincide with the winding down of the Fed's securities purchase program and will create a spike in longer term treasuries' supply. We may soon be facing a sharp curve steepening in treasuries, possibly the largest in recent years.

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Quantitative easing right on schedule

The Fed is gearing up to purchase treasuries all along the yield curve. Looks like quantitative easing across the board in the next two weeks. They picked a period between the Treasury auctions to try to bid up the paper. Let’s see if it works.