Wondering why AOFM went AWOL last week

NSW Treasury Corporation was the only issuer in the government sector last week, selling A$825 million of May 2023 bonds to take outstandings to A$1.08 billion. TCorp was able to sell the bonds at a yield of 6.455 per cent or 82 bps over CGS, after launching the issue at a minimum size of A$500 million and a maximum of A$1.0 billion.

TCorp reportedly found it challenging to price the bond when the longest dated Commonwealth government benchmark bond is only May 2021. With much long life infrastructure to fund, TCorp would like to see the Commonwealth bond curve lengthened.

TCorp was the only issuer in the government sector last week because the Australian Office of Financial Management surprised the market and cancelled its twice-weekly bond tenders at short notice. No explanation was provided on its website for the cancellation.

This of course generated much speculation, mostly centred on AOFM finding it more difficult to sell CGS at recent tenders.

With the exception of one week in mid-June, when it certainly appeared that QTC had crowded out AOFM with its massive A$3.25 billion, new government-guaranteed benchmark issue, the tender results do not support this contention. Oversubscription rates have been strong and fairly steady.

However, yields have been rising and that may be more of an issue, depending on who has been buying the bonds.

The conventional wisdom is that the bonds are predominately bought by offshore investors and particularly Asian central banks. Such buyers are typically long-term, buy and hold investors and less likely to be concerned about short-term fluctuations in yield.

On the other hand, if the buyers had been the domestic banks hoping for short-term arbitrage opportunities, they would have had their fingers burnt. Government bonds have generated negative returns over the first half of the year, on a total return basis.
 
This may continue if yields continue to rise, and especially if this is driven by supply concerns.

Although there is some evidence that yields are stabilising now they have returned to more normal levels from the ultra low levels seen at the start of the year.

Once AOFM makes public its register of the beneficial owners of CGS, we will know who really has been buying the bonds.

In the meantime, expanding the market for Commonwealth bonds may well be a very good idea.

 The Australian Securities Exchange is pushing to have CGS (and semi-government bonds) listed - opening up the market to retail investors and self managed superannuation funds.

AOFM's biggest problem at the moment is that there is simply too much government-guaranteed debt in the domestic market, as the figures quoted in the corporate bond issuance sections above attest. This debt is offering higher yields for the same risk!