How U.S. Treasuries are issued is very important for U.S. stocks

Will the U.S. Treasury increase short-term debt issuance to extend the bull market?

The recent astonishing rebound of the S&P 500 is eye-catching, just a step away from its historical high. However, analysis by Bloomberg macro strategist Simon White shows that whenever the net issuance of medium to long-term debt (Net debt issue, the difference between total debt issuance and total debt repayment) approaches or exceeds 100% of the fiscal deficit, the stock market inevitably falls into stagnation or decline.

This pattern has been validated in 2008, 2010, 2015, 2018, 2022, and currently—covering almost every stock market downturn since the global financial crisis, except for the pandemic.

Currently, the net issuance of medium to long-term debt in the U.S. is close to 100% of the deficit, with net issuance of long-term debt accounting for 80%, while the growth rate of total government debt issuance (Gross debt issue) is slowing down. This combination of "anti-golden rules" is arguably the worst-case scenario for the stock market: the "crowding out effect" of medium to long-term debt issuance is stifling the upward momentum of the stock market, while the growth stimulus from the fiscal deficit is far from offsetting this impact.

Data shows that when the net issuance of medium to long-term debt exceeds 85% of the deficit and the total issuance growth rate declines, the performance of the S&P 500 in the following 1-12 months is significantly below average.

The market is in the least friendly fiscal environment, and Simon White bluntly states: "This is definitely not the best time to invest."

Successful Example of Short-Term Debt Supporting the Market in 2023

Looking back at 2023, then U.S. Treasury Secretary Janet Yellen injected vitality into the market through large-scale short-term debt issuance.

At that time, over $2 trillion of idle funds were hoarded in the Federal Reserve's reverse repurchase (RRP) tool, and the surge in short-term debt issuance allowed money market funds to withdraw RRP funds, filling the deficit while maintaining liquidity, leading to a decrease in long-term debt issuance proportion and initiating a two-year bull market.

Simon White points out that the liquidity of short-term debt has far less impact on risk assets than that of long-term debt holders, and this "low-speed liquidity" characteristic allows the market to still breathe under high deficit conditions.Now, the market is once again calling for a similar "short debt antidote." Simon White believes that if the Treasury wants to avoid a bull market collapse, the only way out is to reduce the net issuance ratio of long-term debt while restarting overall issuance growth—in other words, significantly increase the issuance of short-term debt.

The Rise of the Repurchase Market Changes the Game

Why is the relationship between short-term debt and the stock market so close? The answer lies in the explosive growth of the repurchase (repo) market.

In recent years, repo transactions have become increasingly "currency-like" due to more advanced collateral valuation systems, better clearing mechanisms, and higher liquidity. Government bonds are no longer stagnant on balance sheets but are frequently repurchased in high liquidity markets at very low discounts, significantly increasing the speed.

Simon White analyzes that the positive correlation between government debt issuance growth (i.e., the supply of repo collateral) and stock market performance is becoming stronger, but this relationship is only reflected in total issuance rather than net issuance.

The reason is that repo operations prefer newly issued debt, while debt nearing maturity is not eligible. In the current issuance structure, the supply of short-term debt is insufficient to alleviate the liquidity squeeze caused by long-term debt, but the growth momentum of total issuance relative to the deficit is too weak.

Will the Treasury "Drink Poison to Quench Thirst"?

However, restarting short-term debt issuance is not a painless move.

The current Treasury Secretary had previously criticized Yellen's short-term debt strategy before taking office, arguing that it raised interest costs and increased the risk of upward inflation.

Currently, the total interest expenditure on U.S. debt has exceeded $1 trillion per year. If the average maturity of debt is further shortened, the increased likelihood of inflation rising could catch the Treasury off guard.

Simon White also points out that increased short-term debt issuance may raise volatility in the fixed income market, and the yield curve is likely to steepen. Funds will flow to the front end of the curve to absorb the new short-term debt supply, and interest rate volatility may further intensify.

Simon White adds that considering its role as a quasi-monetary policy maker, the Treasury also needs to consider whether it is appropriate to distort the issuance structure to support the stock market