Wednesday was certainly an interesting auction’s eve. On the day before the Treasury is reopening CUSIP 912828B25 – a 10-year Treasury Inflation-Protected Security – at auction, the Federal Reserve today issued a statement that certainly said nothing dire … but the market reacted.
The TIPS market was shaken when the statement was released at 2 p.m., as you can see from this chart, showing the one-day price of the TIP ETF, which holds a broad range of maturities:
So what did the Fed say? The big news, as reported in this Wall Street Journal report, is that the Fed affirmed that it would continue to hold short-term interest rates low well into the future. It also said, as expected, that it would continue to lower its bond-buying stimulus by $10 billion in April.
All of this appears to be good news for the bond market. So why the hit to TIPS, which were slammed harder that the overall bond market, the overall Treasury market, and even harder than long-term Treasuries?
Michael Ashton, who writes the E-piphany blog focusing on inflation, offers this explanation:
TIPS were mainly under pressure because there is an auction scheduled for tomorrow and it was dangerous to set up prior to the Fed meeting, not because there was something secretly hawkish about the Fed’s statement. Indeed, they took pains to say that “a highly accommodative stance of monetary policy remains appropriate” …
If you are searching for secret code words from the Fed, you can read its full statement. In very brief summary, it says:
- The economy has slowed (slightly) because of the harsh winter.
- Inflation is running below the Fed’s long-term objective. “The Committee recognizes that inflation persistently below its 2 percent objective could pose risks to economic performance.”
- The Fed will continue tapering its bond-buying stimulus program in April, but it will still be buying $50 billion in bonds that month.
- The Fed said it will continue to keep short-term interest rates very low, noting “that a highly accommodative stance of monetary policy remains appropriate.”
- And well, forget about the numbers: “Even after employment and inflation are near mandate-consistent levels, economic conditions may, for some time, warrant keeping the target federal funds rate below levels the Committee views as normal in the longer run.”
So there you go. If anything, this Fed policy is encouraging – practically begging for – higher inflation, and that should cause demand for TIPS to rise and yields fall. But the opposite happened Wednesday.
It will be interesting to see what happens Thursday morning. If TIPS continue on a sharp decline – meaning yields rise – Thursday’s auction could get a lot more desirable.
As of the market close Wednesday, CUSIP 912828B25 (the TIPS being reopened Thursday) was trading on the secondary market with a yield of 0.571%, substantially higher than Wednesday’s close of 0.480%, but still well below the 0.661% that this same TIPS drew at its original auction Jan. 23.
Keep an eye out in the morning.