Prices of Treasury coupon securities marched higher today as fears of systemic risk engulfed the markets. The Lehman bankruptcy caused the money market fund The Reserve Fund to break the buck and that sparked a massive flight to the short end of the Treasury market. (I will do bills first since there was so much action there today.)The flight to bills had begun yesterday and one dealer with whom I spoke marked the one month bill at 17 basis points yesterday. They are currently zero and have traded negative yield. I spoke with a trader at one shop who noted that his bill trader made a significant number of sales at negative rates today. The three month T bill closed yesterday at 85 basis points and it currently sits at 15 basis points. The yield on the six month bill is lower by about 50 basis points and the yield on the one year bill is lower by 17 basis points.
The Treasury actually sold $40billion of 35 day T bills today a rate of 30 basis points. That was the highest rate and represented the level at which the Treasury awarded securities. There were some bids at zero and the median bid was 5 basis points. Indirect bidders (foreign central banks) took more than half the issue.
The problems at the Reserve Fund have sparked a reaction which is system threatening. Money funds contain a reservoir of $3.56 trillion. That oversized liquidity pond funds insurance companies, banks, brokers, industrial companies and commercial establishments of every ilk. The financial system has faced financial headwinds for the past 13 months. If money leaves the funds to return to the safety of an FDIC insured account or to the safe sanctuary of T bills it will put a stretched and fragile system under even more stress. Funding issues will multiply in that environment and the result can only be dire.
Libor will be under pressure again tomorrow as three month Libor is offered for tomorrow at around 3.23 percent. I believe the set today was at 3.06 percent. One money market trader with whom I speak said that there was very little trading in financial sector names today. Corporate names with no exposure to financial trade superbly. He cited Nestle as an example and said there paper would trade between 1.75 percent and 2.00. Chocolate bars are pristine it seems.
I also asked about liquidations from money funds and he reported isolated instances of money funds selling to raise cash. He said that it did not feel that there were wholesale withdrawals and in his opinion the selling that he did see was prudent anticipation for withdrawals.
Yields on benchmark treasury debt dropped across the curve. The 2 year note benefited from the flight to quality bid at the front end and its yield tumbled 20 basis points to 1.61 percent. The yield on the 5 year note dropped 12 basis points to 3.47 percent. The yield on the 10 year treasury dropped, too, but the decline was a more subdued 6 basis points to close the day at 3.39 percent. The yield on the Long Bond dropped 3 basis points to 4.06 percent.
The 2year/10 year spread widened 14 basis points to 177 basis points.
Swap spreads widened dramatically. The 2 year swap spread widened 25 ½ basis points to 129 ½. The 5 year swap spread widened 13 ¾ basis points to 109 ½ and the 10 year spread widened 6 ¼ basis points to 69 ¼.
Mortgage spreads widened 15 basis points to 20 basis points.