The US treasury will auction off $58B of 3-year notes at the top of the hour. The auction is the first of three this week. The treasury will auction 10 year notes (well 9 year and 11 month) tomorrow and 30 year bonds on Thursday.
After trading above 4.20% for most of November, yields have drifted down to around 4.10%, creating a reasonable concession ahead of key events this week.
With CPI and PPI expected to support a likely FOMC rate cut next week, the fundamental backdrop appears favorable for 3-year notes. However, their outperformance relative to longer-dated securities in December has reduced their relative value appeal. Despite this, the fundamentals still suggest solid value for 3-year notes, with potential for a small stop-through in the afternoon auction.
BMO outlines some pros and cons:
Pros
- The trio of stop-throughs at the late-November 2-, 5-, and 7-year auctions showed solid demand for shorter-dated coupons at prevailing valuations.
- The details of Friday’s employment report showed thorough evidence of softening in the employment landscape.
- The drift toward lower realized volatility in Treasuries remains thematic with the MOVE Index down to some of its lowest levels since the beginning of the Fed’s tightening cycle.
- As the major global central banks continue to march toward a more normal policy rate environment, it follows intuitively that the broader global rates complex should be on its way lower.
- December is seasonally fair for 3-year auctions; since 2010, eight auctions stopped-through, one stopped on the screws, and five tailed.
Cons
- The event risk posed by tomorrow’s CPI update may keep aggressive bidding at bay until there is greater clarity on the inflation outlook.
- The last two 3-year auctions tailed – November’s by 0.9 bp and October’s by 0.8 bp – with solidly below-average non-dealer participation.
The 6 month averages of the major components shows:
- Bid to cover: 2.56X
- Tail: 0.0 bps
- Directs (domestic buyers): 17.1%
- Indirect (international buyers): 66.4%
- Dealers: 16.6%