US Considers Notes That Float (Treasury Bonds)

LittleMoxie

This seems like a bad idea to me.  I understand why they want to stop issuing so much debt so often, but I like the idea of a reminder of all that debt.  Just doing this and also pushing for longer maturities seems like it's trying to forget about the debt or kick the can further down the road.  I realize that the Fed and Treasury are really only concerned about the market and what happen there and have no say over what Congress does that is getting us into all this debt.

Also, with the US still being one of the safest government bonds around, I'm not sure there is much savings to be had by doing this.  It seems like we will just open ourselves up to uncertainty and volatility on rates in the next two years and it can only cost us money.

Thoughts?

*************

http://online.wsj.com/article/SB10001424052702304868004577376401074885134.html?mod=googlenews_wsj 

As borrowers around the U.S. rush to lock in near-record-low interest rates on everything from mortgages to corporate bonds, the Treasury Department soon might embark on a program that seemingly does just the opposite.

Treasury officials will decide this week whether to start issuing floating-rate debt for the first time. Matt Phillips reports on Markets Hub. Photo: AFP/Getty Images.

After a series of meetings early this week, Treasury officials will decide whether to start issuing floating-rate debt for the first time ever. Instead of the interest rate being fixed throughout the life of the notes, the rate would move up and down as overall rates move higher and lower.

The change would be the first new addition to the Treasury's arsenal of debt products in 15 years. Analysts are widely expecting Treasury officials to sign off on the program.

While it may seem like odd timing to start issuing floating-rate debt, since most analysts predict interest rates are unlikely to get much lower, Wall Street analysts say the changes make some sense.

Enlarge Image

Close

Bloomberg News

The Treasury Department will weigh whether to offer floating-rate debt to investors at a meeting this week. Any change would be the first addition to the U.S. debt lineup in 15 years.

For one thing, the new debt products wouldn't necessarily increase Treasury's exposure to short-term fluctuations in rates. That is because the floating-rate notes mainly would be used in place of short-term debt?bills and notes that are issued with maturities of less than two years. Treasury is constantly issuing new bills, mainly to replace maturing debt.

Issuing a floating-rate note of two years in place of a series of three-month bills also would reduce the number of times Treasury would have to sell new debt, which it does via auction. That is appealing, bankers say, especially in light of the recent debt auctions of heavily indebted countries such as Spain and Italy. Those debt sales have been nail-biting events for the financial markets.

"With bills, the thing is you have to come to the market every week," said Priya Misra, head of U.S. interest-rate strategy at Bank of America BAC +2.47%Merrill Lynch in New York. "And [issuing floaters] lessens the amount that you have to come back."

Of course, Treasury has no problem finding buyers for its debt. Investors have flocked to the safety of U.S. government bonds throughout the crisis. The rush, along with bond-buying from the Federal Reserve, has pushed U.S. interest rates to some of their lowest levels since World War II.

It is not certain that the Treasury will go ahead with the plan. The government considered the possibility of issuing floating-rate Treasury securities in the 1990s and ultimately it decided not to go forward with the program.

The U.S. would follow countries such as Italy and the U.K., which are both big issuers of floating-rate government debt.

In recent years the U.S. government has been focused on borrowing from investors by issuing longer-term debt, rather than short-term Treasury bills. That has pushed the weighted average maturity of the U.S. debt?a measure of when the bulk of the debt must be repaid to investors?to 62.4 months at the end of 2011, up from 49 months at the end of 2008.

Shifting the composition of the U.S. debt load to longer-term bonds from bills helps make the costs of carrying the debt load less sensitive to market sentiment.

But there are downsides to borrowing long-term. With interest rates so low, the U.S. government pays next to nothing to borrow short-term.

For example, the yield on three-month Treasury notes is just 0.09%. By comparison, the government cost of borrowing using the 10-year note is around 1.92%.

That is quite low by historical standards, but it is still a lot more expensive that 0.09%.

Analysts say the Treasury is betting that issuing floating-rate notes can help Uncle Sam pay a bill-like yield, but lock up the money it borrowed for a longer period than a few months.

"The Treasury is trying to avoid issuing more Treasury bills," said Joseph Abate, money-market strategist at Barclays. "And this would be potentially one way of doing that."

Still, the program would take some time to have a meaningful impact. Bank of America Merrill Lynch analysts estimate that the Treasury would start any floating-rate program by issuing around $10 billion in floating- rate notes each month. That compares to the roughly $400 billion in bills the Treasury issues each month.

Analysts expect demand for such short-term, high-quality floating-rate debt to be strong. New regulations that came in the wake of the financial crisis pushed financial institutions to hold more safe assets such as Treasurys, and floating-rate notes might be more attractive when interest rates eventually begin to rise.

Other potential buyers include money market mutual funds and state and local governments looking to manage their cash.

"The product should be suitable for a diverse investor base," wrote Morgan Stanley MS +1.22%interest-rate strategists in a note published last week.

Write to Matt Phillips at matt.phillips@wsj.com