Fed speeds up purchase of Treasuries to ease market strains

The Federal Reserve signalled on Friday it is accelerating its purchases of US Treasuries, further stepping up its effort to ease strains in the world’s largest and most liquid government debt market. 

The New York arm of the central bank said it would buy about $37bn of Treasuries throughout the day — close to half the total it has said it would buy for the whole of March and early April.

“These purchases are intended to address highly unusual disruptions in the market for Treasury securities associated with the coronavirus outbreak,” the New York Fed said in its announcement of the new schedule. 

It would buy Treasuries of all maturities throughout the day and said it would continue “as needed to foster smooth Treasury market functioning and efficient and effective policy implementation”.

According to the announcement, it could move up more of March’s planned purchases as well. 

As part of its strategy to increase the supply of cash reserves available to banks, it is buying $80bn of Treasuries per month, including $20bn to replace existing holdings that mature. Until this week, those purchases have been concentrated among very short-dated Treasury bills, but it said on Thursday it would buy long-term government debt, too.

The aim is to act as a buyer of last resort following the deterioration in liquidity across the Treasury market.

The Fed’s challenge was that the market for Treasuries was “wiggly”, according to Darrell Duffie of Stanford University’s Graduate School of Business, meaning Treasuries with similar maturities are not trading at similar values. 

Normally traders would profit from smoothing those values out. Right now they are not. For example, said Mr Duffie, if a Treasury that matures in 9.5 years is not trading close to one that matures in 9 years, “market participants aren’t taking advantage of that price dislocation, which means that markets aren’t liquid”.

According to strategists at JPMorgan, these deviations among Treasuries of similar maturities began to stabilise after the Fed’s initial announcement on Thursday. As well as buying longer-dated Treasuries, the central bank also said that it would pump trillions of dollars into short-term funding markets, if needed, including offering up to $500bn of three-month loans and $500bn of one-month loans on Friday.

“They are making sure they are doing whatever it takes to backstop the Treasury market,” said Jon Hill, a rates strategist at BMO Capital Markets. “They have the capacity to do a lot really fast, and they are willing to do it.”

Demand for the Fed’s cash was modest on Friday, however. There were just $17bn in bids for the three-month loans. Market participants requested just $24bn of the Fed’s one-month loans.

The yield on 30-year Treasuries initially fell on news of the accelerated purchases, sliding roughly 20 basis points, before rising once again to 1.55 per cent. Yields rise when prices fall. Gains at other points along the yield curve were also short-lived, with the benchmark 10-year yield falling over 10 basis points before settling at 0.93 per cent.

On top of challenges to Treasury market liquidity, the Fed is also wrestling with how to limit the broad economic fallout of the coronavirus and efforts to contain it that threaten swaths of American business and consumer activity

Markets are betting the Fed could cut its main policy rate for a second time in a month at its meeting next week, and some are now predicting a full percentage point cut, bringing the range down to between 0 and 0.25 per cent.

Mr Hill said the launch of a “true QE” programme was also on the cards in which the Fed crafts an even bigger programme of bond purchases — known as quantitative easing — specifically to stimulate the economy. Friday’s purchases announcement serves as a place holder until that was announced, he added.

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