Bond Auction Basics
Research for Online Investors

This article originally appeared as MarketToday on 3/3/10

by John Dalt

Friday we wrote about Bond Vigilantes, and feedback suggested our subscribers would like to know more about how Treasury Auctions work.

The Treasury issues a press release with the amount of debt to be issued and how much debt is coming due that the Federal Reserve owns.   Participants see this as a tip of the Fed’s hand, showing how much money they have to buy new issues.

Investors can place bids either competitively or on a non-competitive basis.   Non-competitive bids are filled first at the lowest competitive bid submitted.  If non-competitive bids take all of the allotment, no other investor orders are filled.

After the non-competitive bids are filled, the lowest competitive bids are filled, if any treasuries are left, Treasury moves to the next highest competitive bid and so on.  The notes are sold in the order of increasing yields until the total debt is sold.

There are three types of bidders at Treasury Auctions; Primary Dealers, Direct Bidders, and Indirect Bidders.  Primary Dealers are under contract to deal with the Federal Reserve Bank of New York and must buy treasuries at each auction.  Direct Bidders place bids directly with Treasury before the auction, and Indirect Bidders who place orders through other Direct Bidders or Primary Dealers.  These Indirect Bidders can be anonymous to other participants, and the Treasury.

Indirect Bidders are assumed to be Foreign Governments.  In the last year the Fed has bought Treasuries as an indirect bidder. This allows the Fed to buy all Treasuries that do not go to other bidders, a so called ‘buyer of last resort.’

Here are the results of today’s 56-day note auction (two months)

March 03, 2010 202-504-3550

                             TREASURY AUCTION RESULTS

Term and Type of Security                                                    56-Day Bill

CUSIP Number                                                                     912795UP4

High Rate                                                       0.125%

Allotted at High                                                54.22

Price                                                         99.980556

Investment Rate                                             0.127%

Median Rate                                                    0.115%

Low Rate                                                        0.090%

Issue Date                                          March 04, 2010

Maturity Da                                           April 29, 2010

                          Tendered                                    Accepted

Competitive $107,278,000,000                   25,000,012,000

Noncompetitive        $338,000                           $338,000

FIMA (Noncompetitive)       $0                                     $0

Subtotal    $107,278,338,000                  $25,000,350,000

SOMA                               $0                                    $0

Total           $107,278,338,000                  $25,000,350,000

                                    Tendered                       Accepted

Primary Dealer         $86,370,000,000       $18,383,712,000

Direct Bidder             $12,843,000,000         $2,053,090,000

Indirect Bidder            $8,065,000,000          $4,563,210,000

Total Competitive $107,278,000,000     $25,000,012,000

Interesting notes on today’s results:

Only $338,000 was submitted on noncompetitive basis.  Would you want to buy treasuries at NO return? Actually they did a little better than NO return; they will actually receive 0.90% annualized. 100 grand will make $150 dollars in two months. Not enough to pay taxi fare.

54.22% of orders were filled at the highest rate, 0.125%  Over half of the bidders were requesting higher rates. This signals interest rates, even on short term lending, is moving higher. 73.5% of the treasuries were filled to Primary Dealers, they HAVE TO BID. Less than 19% of the treasuries went to Indirect Bidders, even though the Treasury accepted 56% of the bids. How much of this was back doored to the Fed? How much of the Primary Dealers purchases will go to the Fed next week? This is the opaque world of Treasury Auctions.

Another term you will hear discussed is the “Coverage Ratio.”  This is the amount of bids divided by accepted (covered). Today’s coverage ratio was 4.29 The lower this number goes the more nervous we should be. Bids at higher rates are better than no bidders! A coverage ratio less than 2 is considered a ‘failed auction’, as the Treasury must take over half of the bids submitted.

You can check Treasury Auction Results weekly to read the tea leaves; I hope this has helped you.  Here is the link for the results, posted shortly after the auction ends.

http://www.treasurydirect.gov/RI/OFGateway

Just select the year and go to auction you would like to check.

The information presented in this newsletter is based on generally available news releases, corporate filings, current events, interviews and the editor’s opinions. It may contain errors and you should not make investment decisions based solely on what you believe you have read here. Do your own research, it is your money. If you lose it, it is your responsibility, not ours or your grandmothers! The editor may or may not have a position in any securities discussed. The editor may have held a position in a security earlier, or in the future.

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