Thou shall covet the T-bond

Treasury 10-year notes (CBOT:ZNM14) have become the most coveted in almost a year in the short-term market for borrowing and lending securities amid a dearth of the debt before this week’s $21 billion auction.

Traders have been willing to pay to borrow the notes in exchange for loaning cash overnight for the most actively traded 10-year maturity, with a repurchase agreement rate at negative 2.94%, according to data from ICAP Plc tracked by Bloomberg. Many times traders short, or sell securities they’ve borrowed in the repo market, ahead a Treasury sale to profit if prices of the securities fall after the auction.

“It is typical for debt like this to get very special before an auction,” said Kenneth Silliman, head of U.S. short- term rates trading at Toronto-Dominion Bank’s TD Securities unit in New York. “There certainly seems to be a deep short base in the issue.”

The overnight repo rate for the current, known as the on- the-run, 10-year note opened today at negative 2.9%, after closing on June 6 at negative 2.5% and ending last month at negative 0.19%, data from ICAP, the world’s largest inter-dealer broker, shows. The overnight general collateral Treasury repurchase rate opened 0.11%.

The U.S. is scheduled to sell $28 billion of three-year notes tomorrow, the 10-year securities the following day and $13 billion in 30-year bonds on June 12.

The most actively traded three-year note opened today in repo at negative 0.25%, while the off-the-run three-year Treasury opened at negative 0.30%.
 

On Special
 

Securities dealers use repos to finance holdings and increase leverage. Securities that can be borrowed at interest rates close to the Fed’s target rate, which is in a range of zero to 0.25%, are called general collateral. Those in highest demand have lower rates and are called special.

Hedge funds and other large speculators have net short positions in 10-year Treasury note futures of 43,295 as of June 3, according to Commodity Futures Trading Commission data. That’s down from a peak net short this year of 162,278 in April.

The average rate for borrowing and lending Treasuries for one day in the repo market was 0.104% on June 6, up from 0.057% at the start of last month, according to the DTCC GCF Treasury Repo index.

The Fed has been purchasing Treasuries, limiting the amount available to borrow and lend in the repo market, as part of its third round of debt purchases known as quantitative easing. The central bank at its policy meeting in April 30 reduced monthly debt purchases to $45 billion, its fourth straight $10 billion cut.
 

Dealer Positions
 

In March 2013, after 10-year note repo rates slide to nearly negative 3% before that month’s auction, the Treasury Department asked for information about positions in the notes with a threshold of $2 billion as of the close of business.

The Treasury in February 2012 asked for similar positioning data, known as large-position reports, related to transactions in the then seven-year note, the 1.25% notes of January 2019, which had also come into short supply in the repo market prior to a new auction of that maturity debt.

Repo rates traded below zero frequently since May 2009 when a 3 percentage point penalty for failing to meet security delivery obligations was put in place. The fee, instituted at the time to reduce failed trades, means that at a repo rate below negative 3% it is more economical for a counterparty to fail to deliver than to obtain the needed security in the repo market.

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