Treasury Sales Smash Record

Treasury Sales Smash Record: http://online.wsj.com/article/SB125682109646015765.html

By MICHAEL CASEY
Of THE WALL STREET JOURNAL

For all the concern over Washington's ballooning deficits and its $12 trillion debt load, the U.S. government demonstrated this week that it retains the capacity to easily raise the funds it needs.

The government sold a record $123 billion in notes this week in four auctions. Each was heavily oversubscribed, drawing in a total of $372.4 billion in bids, more than three times the offered amount.

This is comforting news for those worried that the U.S. biggest lenders, especially the Chinese central bank, could start paring back on purchases for fear that record U.S. fiscal deficits and excessively easy monetary policy could undermine confidence in the dollar.

The four giant U.S. government debt sales -- comprising $116 billion in two-, five-, and seven-year notes and $7 billion in five-year inflation-protected securities -- speak in part to the continued dominance of the dollar as a reserve currency.

And the U.S. will need that demand going forward. Lou Crandall, chief economist at Wrightson ICAP, expects the Treasury to issue $1.325 trillion in new debt in the year through September 2010, based on the government's guidance for a budget deficit of $1.3 trillion.

"When you look at the largest capital flows that are going around the world, they are still coming out of Asia," said Dominic Konstam, interest-rate strategist at Credit Suisse in New York. "And although there has been some diversification ... at the end of the day they are still beholden to U.S. markets."

By comparison, a series of much smaller euro-denominated government debt auctions attracted far less demand.

"The Treasurys market is in some fundamental sense much more liquid than European markets because the dollar is still by far the global reserve currency," Mr. Konstam said.

A key player in that equation is China's central bank, which manages a $2 trillion stockpile of reserves and which from time to time has expressed concern about the U.S. government's mounting debts and questioned the worth of keeping the dollar as the world's reserve status.

The two- and five-year auctions benefited from a general shift out of risky assets into the safety of government debt. The seven-year auction on Thursday took place against a tougher backdrop, with yields rising and prices falling after a stronger-than-expected reading on third-quarter U.S. economic growth. The 10-year benchmark Treasury price fell 25/32 point, or $7.8125 for every $1,000 invested, to 101. Its yield rose to 3.503% from 3.409% Thursday, sending it back to Monday's levels.

Yet the results show that domestic demand for U.S. government debt also is healthy. For example, the Treasury's breakdown of the bids for its record-breaking $41 billion five-year note offering attributed almost three quarters of the total $107.8 billion received to domestic sources, with the remainder coming from "indirect bidders" -- typically defined as foreign central banks.

Mr. Konstam said this is partly because U.S. banks are flush with excess funds due to liquidity injections from the Federal Reserve. Commercial banks have also ramped up their Treasury purchases recently to help strengthen their balance sheets. Banks don't need to hold assets against their Treasury holdings.

Demand from households is also healthy, as they increase savings to bring their finances into order in the wake of the housing crisis.

Investors Warm, Briefly, To the Golden State

California's latest bond issue met with better-than-expected investor demand, but it's unlikely the honeymoon is going to last.

California Treasury officials were cheered when individual or "retail" buyers snapped up 71.5% of the state's $3.49 billion offering in "economic recovery bonds." That demand allowed the state to squeeze yields on the bonds, saving millions for the cash-strapped state, said California Treasury spokesman Tom Dresslar.

In addition to the full faith and credit of California -- currently rated Baa1 by Moody's Investors Service -- Thursday's bond offering was backed by a quarter-point sales tax raised specifically by voters to cover interest payments.

As a result, Moody's put an A1 rating on the deal, saying the extra backing allowed the "economic recovery bonds" to transcend the state's credit problems.

---- Andrew Edwards