The weight of the huge, $10 billion, three-issue Treasury refunding pushed bond prices lower last week as retail demand failed to materialize. The three-year issue, which should have garnered the most interest, was poorly received. The dealers, correctly sensing retail interest, decided to be greedy and stepped in front of the retail buyers by entering higher bids for the notes. This play proved most successful as the dealers purchased about $3 billion of the $5 billion issue. The only problem was that the retail interest was 14 3/4 percent or less, and the dealers had pushed too far and owned the notes at higher prices (lower yields).
Retail buyers, having been burned many times in the past, and very much aware of the volatility in the marketplace, decided to stay away from the longer and more volatile 10 and 30-year issues. When you add it all up, Wall Street probably owns $6 billion to $7 billion out of the $10 billion sold.
The same factors that kept the institutional buyers out of the auction will now come back to haunt the dealers. Aside from price volatility, these include concern about the rising money supply, large federal budget deficits, the recent increase in short-term rates, and the remarks from Treasury Secretary Regan that the economy will come roaring back in the spring. With these thoughts in mind, the dealers can only hope that the money supply numbers show sizable reductions or else they will have to cut the prices on the bonds they own in hopes of luring buyers into the marketplace. Not an enviable position to be in, to say the least, but if the dealers had been less greedy in the three-year auction, things might not have gone so badly for them.
There are obviously good values in the market, but with little demand, they go begging. Because rates have risen in the past two months, corporations have done little financing. In fact, the new corporate issue volume is 74 percent lower in early 1982 than in the same 1981 period. Yet long rates have continued to move higher. It all boils down to the prevailing psychology: Should the money supply begin to decline, and the federal funds rate moves lower, the psychology would change, and the bond markets would rally.
This week the Washington Public Power Supply System will sell $500 million in tax-exempt revenue bonds for their nuclear projects numbers 1, 2, and 3. The issue will carry a triple-A rating. Currently, there are four term maturities that should carry a tax exempt return of 15 percent or less. Here is an instance where the triple-A tax-exempt return will be higher than the taxable return on the 30-year Treasury bond. Many brokerage firms will offer these bonds.
On Tuesday, over $2 billion of short-term, government-backed (HUD) project notes will be sold. The bulk of these notes will mature in July, August and September. The returns should be approximately 7 3/4 percent. The demand for this merchandise by the tax-exempt money market funds helps to keep the returns at a lower level than would otherwise be the case.