This past week the news broke that Japanese investors unloaded on their huge holdings of American government debt (better known as Treasuries). This happened for the second consecutive month in November. Normally this might not be such a big deal.
Several factors make it different this time. China and Japan are by far and away the largest holders of U.S. government debt. In fact China remains the largest foreign owner of American government bonds. Yet the data revealed a more disturbing and deeper trend. Both China and Japan’s aggregate shares of American Treasuries declined significantly.
They dropped to around 36 percent of the total of foreign inventoried Treasuries for November. This represented the lowest total for 18 years now. This chart shows how significant the data is:
At the same time, Asian investors grabbed a larger quantity of French and German debt. Other European countries are benefiting from this debt buying shift as well. Belgium sold Asian buyers a substantial 16 percent of its new notes last week. A year prior only one percent of the Belgian deal went to Asia.
The ironic part is that lower yielding debt from the Euro Zone countries is outperforming America’s Treasuries. The reasons behind this shift have something do with improving economic conditions in Europe.
On January 12th, the benchmark American yield on 10 year Treasuries topped its greatest amount in over three years. Yet even with with the widening spreads between the American and euro zone debt holdings paying them less return, Asian investors are preferring European debt.
Intellectus Partners’ Chief Economist Ben Emons got to the heart of the matter best with:
“Rising currency-hedging costs could drive more Asians out of U.S. Treasuries and into European bonds. It’s certainly true that the market is worried about more supply in the U.S.”
This shift away from American debt comes at the worst possible time for the U.S. Treasury. The recently passed tax cut will widen the United States’ federal deficit to a point that Treasury could need to double its offerings of U.S. government bonds.
The same tax cuts are driving away another buyer of Treasuries— American corporations. This is happening at a time when the government needs them to step in and fill the shoes of the Japanese and Chinese.
In fact Treasuries are experiencing a perfect storm now. Just as the Treasury supply is set to double, the largest buyers of the government debt are shifting away. Exactly when corporations might step in and buy up the excess, the tax cuts have taken away their motivation to hold government debt.
Is Your Retirement Portfolio Protected from Treasury Market Demand Drop?
The U.S. government relies on the sale of these Treasuries to fund its ongoing operations. The difference between now and earlier periods when demand for the debt has declined is that now the government has more than $20 trillion in debt. It is scaring away the buyers that they plan to issue twice the amount of last year. This could spell big trouble for ongoing American federal finances. Fortunately you do not have to lie awake at night hoping a problem with the Treasuries market will not hurt your retirement holdings.
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