Wall Street is speculating: What will Bessant's next move be in "saving US Treasury bonds"?

U.S. Treasury Secretary Scott Bessent's more proactive approach to managing the national debt is disrupting the long-standing predictability of the U.S. bond market and prompting Wall Street to urgently speculate on potential major adjustments to government borrowing strategies in the coming months.

According to a Bloomberg report on August 26, market focus has quickly shifted to the Treasury's quarterly bond issuance plan on November 4 , following last week's announcement of a bond repurchase program that Bessant called "Operation Treasury Twist." Strategists at Wall Street investment banks such as Bank of America and Deutsche Bank warned that this upcoming announcement has become an unprecedented unknown for the $31 trillion U.S. Treasury market.

Currently, mainstream Wall Street institutions expect the Treasury to signal in November that future borrowing increases will be facilitated through short-term Treasury bills and shorter-term notes, while further expanding repurchase operations to alleviate pressure on long-term yields . Some investment banks even suggest that the more aggressive option of directly reducing long-term bond issuance is on the rise.

With long-term Treasury yields hovering near multi-year highs, the Treasury's departure from its long-standing practice of "regular and predictable" debt management is injecting new volatility into the market. Investors are facing a new era in U.S. debt management and are reassessing their portfolios' risk exposure accordingly.

The November bond issuance plan remains an "unknown" for the market.

Bessant's recent moves have disrupted the long-standing calm in U.S. policymaking. Meghan Swiber, managing director of U.S. interest rate strategy at Bank of America Corp., said the bond market is entering "a whole new world" of U.S. debt management.

Although Bessant has ruled out any changes to the regular auction schedule and stated that the Treasury will stick to the current timeline at least until the next bond issuance plan is announced, market expectations have changed.

Ian Lyngen, head of U.S. interest rate strategy at BMO Capital Markets, pointed out that Bessant's actions have effectively turned the November bond issuance announcement into a huge unknown. He emphasized that the possibility of reducing the size of the bond auction can no longer be ruled out.

Furthermore, the Treasury made a subtle wording adjustment in its latest bond issuance guidance, stating that officials are assessing potential "changes" in future coupon and floating-rate note sales, rather than "increases" as stated in previous guidance. Analysts believe this provides the Treasury with more leeway to reduce long-term bond issuance.

The strategic game of increasing repurchases versus shortening duration

According to reports, as a first step in the adjustment, the Treasury Department may adjust its repurchase operations. A team of strategists led by Steven Zeng of Deutsche Bank AG believes the Treasury Department may increase the size of its long-term operations above the initially proposed minimum of $4 billion.

Officials may even keep the size of the operation secret until the day before, thereby reducing the predictability of the repurchase program and significantly raising the bar for investors to short long-term government bonds.

However, expanded repurchase operations alone cannot achieve a substantial shift in the maturity of government debt. Unlike the Federal Reserve, the Treasury cannot create funds out of thin air to finance its purchases. This means that repurchases must ultimately be funded through additional issuance (most likely short-term Treasury bills) or the use of cash in the Treasury's accounts.

Morgan Stanley points out that the Treasury Department’s account could provide $80 billion to $200 billion in funding for the buyback.

Morgan Stanley interest rate strategist Martin Tobias said the expanded repurchase program itself may only be a transitional phase until the bond issuance plan in November is released. He believes the event that will ultimately trigger market volatility will be the Treasury's decision to shorten the weighted average maturity.

Tobias expects the Treasury to gradually increase the sale of shorter-term notes while keeping the sale of longer-term bonds stable, but the risk of directly cutting long-term bond auctions has increased in the past week.

Reducing the tail risk and controversies of long-term debt issuance

Some strategists are considering more radical reform proposals.

Citigroup has postponed its forecast for a larger auction to 2028 and raised the tail risk that the Treasury may eventually cancel the 20-year Treasury note , a maturity bond reintroduced in 2020 by Steven Mnuchin, the first Treasury Secretary under the Trump administration.

Despite their shorter maturities, the current yield on 20-year Treasury bonds is similar to that of 30-year Treasury bonds, which seems counterintuitive given the upward-sloping yield curve in the United States.

Jason Williams, head of U.S. interest rate strategy at Citigroup, said that given the poor performance of 20-year Treasury bonds relative to 10-year and 30-year Treasury bonds, the Treasury is likely to reduce the size of its auctions, and 20-year Treasury bonds may benefit the most from future actions.

However, the report states that directly reducing long-term debt issuance faces real challenges. The Treasury stopped selling 30-year bonds in 2001, but the fiscal context was vastly different then, with budget surpluses reducing the government's financing needs. In the current period of high issuance, any move to cancel bonds of a particular maturity would force bonds of other maturities to absorb those borrowings.

Kevin Flanagan, head of investment strategy at WisdomTree, warned that cutting issuance at the long end of the curve and making up for it elsewhere seems mathematically very difficult. He stated that if the Treasury goes down this path, the market will perceive it as manipulation, which could ultimately backfire.

Risk Warning and DisclaimerInvesting involves risk; please exercise caution. This article does not constitute personal investment advice and does not take into account the specific investment objectives, financial situation, or needs of individual users. Users should consider whether any opinions, views, or conclusions in this article are suitable for their specific circumstances. Any investment decisions made based on this information are at your own risk.