Treasury's Bond Buying Spree Raises Questions About Motivations

The US Treasury has taken an increasingly active role in market intervention, sparking questions about its motivations and potential impact on the financial system. In mid-August, the Treasury announced that it would double the size of its liquidity-support buybacks for 10-to-30-year bonds, following a sharp increase in 30-year Treasury yields to their highest level since 2007.

The bond buybacks are not quantitative easing, as they do not reduce the government's overall borrowing requirements. Instead, older, less-liquid securities will be purchased and retired, with any cash used ultimately financed through revenues or additional debt issuance elsewhere. The amounts involved are modest, but signaling matters - long-term yields fell sharply following the announcement, although much of the initial move was subsequently reversed.

The Treasury's actions may be related to a coordinated intervention with Japan to support the yen, which has seen its value decline due to disorderly market moves. Japan is the largest foreign holder of US Treasury securities, with approximately $1.1 trillion invested. The country typically finances yen purchases by drawing down its foreign currency reserves, potentially including Treasury holdings.

While these actions are understandable in light of the potential for disorderly markets to spill over into risk assets like equities, there is a limit to what market intervention can accomplish. The US fiscal deficit remains near 6% of GDP this year, federal debt has surpassed $40 trillion, and rising interest costs are consuming a growing share of federal expenditures.

Investors should be cautious in their approach to duration and continue diversification across inflation-protected bonds, currencies, and real assets. The Treasury may be buying bonds and yen, but what it is really trying to buy is time.