The moment of truth has arrived. The debt ceiling deal is done. After a final paroxysm of T-bill paydowns totaling $209 billion this week, all that market support from the US Treasury will go in reverse. The Treasury market will get slammed with a tidal wave of supply to start to repay all the internal accounts that the Federal Government raided to stay under the debt ceiling.
Under the circumstances, I thought this would be a good time to look at Primary Dealer positions and financing, along with the usual QE and supply data in a report to follow. In any case, there are no surprises.
This situation is unfolding on the timetable we expected. The wildcard is the Fed’s RRP slush fund, which has been hovering around $1.5 trillion. The uncertainty lies in the fact that we don’t know how long that will last. What we do know is that the drawdowns will start very soon, perhaps this week.
The Primary Dealer data might give us some idea of how long the RRP slush fund will last before the bond market really starts to crack. It’s not an open and shut case that the holders of the RRPs will use all $1.5 trillion of it. I continue to think that some will stay put, content to leave their cash in these overnight RRPs with the Fed instead of moving back into T-bills. The sooner the amount of RRPs outstanding levels off, and the higher the level remaining outstanding, the more bearish it will be for Treasuries and stocks.
But first, since we last looked at the Primary Dealer data in late October, the dealers have dumped a ton of long Treasury inventory. They’re still highly leveraged, but their net long position is the lowest it has been in 4 years. They’re getting prepared for the worst. Whether that will help them weather the storm is an open question that we will monitor closely.
At the very least, we need to be prepared for xxx xxxx xxxxx xxxx (subscriber version) in stocks, and what should turn into xxx xxxx xxxxx xxxx in Treasuries and other fixed income securities. Here’s what I would do about that.
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