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Sinking short-term Treasury yields aren't a sign of panic this time

Unlike a year ago, demand stems from moves by banks and other financial institutions to bolster their balance sheets with liquid assets as the year ends, an expert says.

November 21, 2009|By Tom Petruno

Uncle Sam is getting yet another break on the cost of borrowing. Suddenly, cash is again fighting to get into the haven of shorter-term Treasury securities, driving yields down to levels last seen after the first stage of the financial-system meltdown a year ago.

It may look like another fear-driven panic, but this time is different: In large part the latest decline in shorter-term yields just stems from moves by banks and other financial firms to bolster their balance sheets with highly liquid assets as 2009 ends, says Tom di Galoma, head of U.S. rates trading at Guggenheim Capital Markets in New York.

"They're dressing up the books for year-end," he said. The more liquid you can look to your regulators, the better.

Late last year the hunger for Treasuries reflected a deep-seated dread that the financial system would continue to implode. That kind of sentiment is mostly absent this time.

The annualized yield on three-month T-bills fell to a barely positive 0.01% on Thursday, down from 0.07% at the beginning of the week and the lowest level since last December. It edged to 0.02% on Friday.

The two-year T-note yield slid this week to 0.7% from 0.8% at the end of last week and also was the lowest since December.

Another factor pushing T-bill yields down: The supply of new debt is shrinking a bit, as the Treasury winds down some of the deficit-financing programs that had pumped up T-bill issuance.

The Treasury was selling as much as $33 billion a week in three-month bills in August. This week's auction was for $30 billion. But the Treasury's sales of longer-term securities are still growing.

The drop in the two-year T-note yield shows that buyers believe there's little risk in locking in a yield of well under 1% until 2011. In turn, that implies growing faith that the Federal Reserve won't be raising its benchmark short-term rate from near zero any time soon -- maybe not even in the second half of 2010, which had seemed like a reasonable window for a Fed hike.

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