Treasury Bills Offer Stock-Like 5% to Take Fed, Debt-Limit Risk

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(Bloomberg) — For the first time in nearly two decades, investors can earn more than 5% on some of the safest debt securities in the world. That’s competitive with riskier assets like the S&P 500 Index.

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There’s just a small catch: US Treasury bills have become less safe, because without an act of Congress, the payment may be delayed.

Six-month Treasury bills this week became the first US government obligations since 2007 to yield more 5% as traders ramped up expectations for additional Federal Reserve interest-rate hikes. One-year bill yields approached the threshold. Meanwhile the clock is ticking to raise the federal debt limit, with the Congressional Budget Office warning that the government will otherwise run out of cash as soon as July.

Nevertheless, with returns on six-month bills now a whisker away from the earnings yield on the benchmark equity index, it’s a risk investors appear willing to take, as weekly bill auctions continue to draw strong demand.

“Cash has become king,” said Ben Emons, senior portfolio manager at NewEdge Wealth. “At such higher rates these cash-like instruments become a much better risk-management tool in your portfolio than other things. If you put 50% of your portfolio now in bills and the rest in equities then your portfolio is better balanced.”

Previous debt-limit fights have created opportunity for investors in bills by cheapening them, and this one is no exception, Emons said. He predicts a protracted political battle over raising the debt limit to produce an agreement in time to avert a default.

Six-month bills sit squarely in the window in which the CBO and Wall Street strategists project the government will run out of cash if Congress doesn’t raise the debt ceiling. If some investors are avoiding them for that reason, others are getting paid to take the risk. The yield has surged 16 basis points over the last two auctions, the steepest back-to-back increase since October.

On the auction front next week, the Treasury plans to sell $60 billion of three-month bills, $48 billion of six-month bills and $34 billion of one-year paper, in addition to its slate of two-, five- and seven year-notes.

Treasury Rates Jump on Bills Due on Debt Deadline as Gross Buys

While longer-term Treasury yields also rose this week, with most reaching their highest levels of the year and many exceeding 4%, bills afford more protection from a Fed outlook that is suddenly in flux again. Only a month ago, few traders expected the central bank to raise rates again after March. By Friday — following a series of indications that inflation isn’t slowing as rapidly as anticipated — an increase in May was fully priced into swap contracts, with odds for another one in June reaching about 70%.

Three more quarter-point rate increases from the 4.5%-4.75% target range set on Feb. 1 would bring it to 5.25%-5%. Economists at Goldman Sachs Group Inc. and Bank of America Corp. adopted that forecast in notes published Thursday.

More clarity about the scope for rates to rise may come next week from the release of the minutes of the central bank’s Feb. 1 meeting, as well as from personal income and spending data for January, which includes the measure of inflation favored by the Fed.

These may increase the allure of bills by extinguishing any remaining wagers that monetary policy will begin to loosen by year-end — an expectation Fed policy makers have discouraged.

“People are realizing that with what the Fed has said about going higher but staying there for longer is probably going to dictate market returns in 2023,” Deborah Cunningham, chief investment officer of global liquidity markets and senior portfolio manager at Federated Hermes, said in a Bloomberg Television interview. “You can’t bet that the Fed is going to get to a terminal rate and then start going back down and be back at 4.5% by the end of the year. That’s just not what the market should be thinking.”

What to Watch

Economic data calendar

Feb. 21: Philadelphia Fed non-manufacturing activity; S&P Global US manufacturing PMI; existing home sales

Feb. 22: MBA mortgage applications

Feb. 23: Chicago Fed nat activity index; 4Q GDP revision; jobless claims

Feb. 24: Personal income and spending (with PCE deflator); new home sales; University of Michigan sentiment

Federal Reserve calendar:

Feb. 22: FOMC minutes

Feb. 23: Atlanta Fed President Raphael Bostic, San Francisco Fed President Mary Daly

Feb. 24: Governor Philip Jefferson, Cleveland Fed President Loretta Mester, Boston Fed President Susan Collins, Governor Christopher Waller

Auction calendar:

Feb. 21: 13-, 26- and 52-week bills, 2-year notes

Feb. 22: 2-year floating-rate notes, 17-week bills, 5-year notes

Feb. 23: 4- and 8-week bills, 7-year notes

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