Sale of 30-year Treasuries a test for investors

The US is preparing to sell $16bn of 30-year Treasury bonds on Thursday, in what is shaping up as a test of investor appetite for long-dated debt after a bout of market turmoil.

In recent weeks investors have dumped global government paper, with selling pressure initially erupting in the eurozone and weighing mainly on longer maturities. Rising expectations of inflation have helped drive the yield on 30-year US government bonds back above 3 per cent from below 2.50 per cent at the start of the April.

A sharp drop in bond prices, which move inversely with yields, means investors have an opportunity to buy 30-year debt above 3 per cent for the first time since an issue was auctioned last November.

"We say that this could be the most important day of the trading year, as the market will absorb the 30-year bond auction later today and complete the quarterly refunding," said John Brady of RJ O'Brien, a broker. "We think that auction will support a 3 per cent handle and will likewise draw strong interest."

The Treasury has enjoyed successful sales of three-year and 10-year government debt this week - helped in particular by robust foreign buying after yields rose sharply in May - but longer-maturity bonds have recorded the worst performance among sectors in the market in recent weeks.

The Barclays index of long-dated Treasury debt has recorded a total return performance of minus 5.4 per cent alone this month, for a year-to-date decline of 4.8 per cent. That compares with a 1 per cent decline so far this month for the broad Barclays Treasury index.

Investors and analysts will also be watching how the Treasury market responds after the auction. David Ader of CRT Capital said the three- and 10-year sales were a "triumph" that initially led to a stronger Treasury market and falling yields, but eventually the rally faltered.

One factor weighing on the US Treasury market could be the heavy issuance of longer-dated corporate debt.

Priya Misra, a strategist at Bank of America Merrill Lynch, pointed out that dollar-denominated corporate and supranational bond issuance had been 40 per cent higher than in the period last year, with more than $100bn of sales so far this month.

"May has so far has seen very high supply, either because it is being frontloaded or that total issuance needs are higher," she wrote in a note. "Corporate issuance can create selling pressure in US Treasuries either through rate locking or through hedging the duration supply."

One possible source of support for the bond may come from traders looking to close out positions that have pushed 30-year yields sharply higher compared with those for the five-year note. The yield difference between the five-year note and 30-year Treasury bond yield fell below 100 basis points this year as the "term premium" - the extra payment investors demand to lend for longer periods - evaporated despite the prospect of Federal Reserve rate increases this year.

Janet Yellen, Fed chairwoman, underscored in a recent speech that the term premium was likely to shoot up once the central bank got closer to its first rate-raising cycle in almost a decade.

The 30-year Treasury yield is 153 basis points above the five-year note yield, the highest since October and up from 135bp last week.

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