Congress has effectively “kicked the can down the road” by raising the statutory debt limit sufficiently to meet Treasury obligations until December 3. This is by no means a solution to the problem, but rather just delays the inevitable uncertainty related to the debt “ceiling” drama that is likely to build as December approaches.
US Treasury bills (T-bills) are continuing to react to the ongoing uncertainty. Notably, we have observed a noticeable “cheapening” of T-bills scheduled to mature in December, creating a “hump” in the T-bill yield curve that moderates in late December and into January (Figure 1). In our view, this turn of events does not present an opportunity for bond investors to reach for incremental yield, as we believe they should instead be focused on preserving liquidity through their T-bill allocation.
Treasury market jitters
In anticipation of the possibility of a technical debt default by the US government, T-bills with maturities falling shortly after the new December 3 deadline to raise the debt limit are commanding a risk premium in the market. Should the risk of default continue to rise as that date approaches, Treasury market dislocations could intensify and/or broaden to include other maturity ranges. That being said, we believe the risk will be short-lived, in all likelihood. The worrisome debt ceiling issue will probably be resolved over a longer time frame and not create lingering problems for the Treasury market, allowing all US debt obligations to ultimately be repaid in full. Nonetheless, the market is feeling some jitters for now, as the uncertainty persists over the near term.
So what should short-duration fixed income investors do at this juncture? For the time being and probably through early December, we would caution against making any new T-bill investments into the “extra-yielding” December maturities in the wake of the cheapening described above. For most clients, T-bills serve the sole purpose of providing liquidity and capital preservation for expected or unexpected cashflows. Therefore, while it may be tempting to step into the higher-yielding bills to earn slightly higher income, we do not believe the potential net contribution to overall portfolio yield by investing in such securities would justify the attendant risk right now.
Any disruption of Treasury debt repayments, while not our base case, could coincide with broader market volatility and liquidity generally “drying up” at a moment when clients may need it most. In that situation, the last thing most investors would want is for their T-bill liquidity to also evaporate, which is possible with the T-bill securities maturing shortly after December 3. Remember, the debt ceiling showdown in Congress is largely a politically-driven risk scenario where the outcome remains, at best, difficult to predict.
- Fixed income investors warily eye Congress and the Fed by Amar Reganti and Jitu Naidu, 27 September 2021
- ESG and cash management: A forward-looking approach to improving the sustainability profile of your cash by Balaji Venkataraman and Andrew Bayerl, 22 July 2021
- Tiering cash to balance liquidity and yield by Andrew Bayerl, 20 May 2021