There’s something interesting going on in these Wall Street Journal articles (Money & Investing and Deal Journal) today about how corporate bonds now sometimes trade inside of Treasuries. Or somethings interesting; one thing that’s going on is, like, why the day after the election? One possibility is that the message here – which the Journal is helpfully conveying from bond investors to the government – is “see? get your fiscal cliff shit together or soon you’ll be pricing your bonds outside of Google, and you don’t want that do you?”

There may be a side helping of, like, annoy modern-monetary-theory bloggers; from a certain viewpoint this graphic is a hot mess of category mistakes1:

BUT THE GOVERNMENT HAS A PRINTING PRESS oh never mind. Maybe Exxon does too, I don’t know.

But this is my favorite part:

On Nov. 1, J&J bonds yielded 0.218%, below its perfectly matched Treasury at 0.283%, according to MarketAxess Research. Google bonds in August yielded 0.17%, below its implied Treasury equivalent at 0.271%. And yields on other top-quality bonds, including from Microsoft, are closing in on Treasury yields.

I dunno from perfectly matched Treasuries but here’s that Google bond, which matures in mid-May 2014, graphed against a(n off-the-run) 1% Treasury maturing at the same time:

Things to notice include:

  • yeah, it traded inside of Treasuries, and
  • like, four times.

Actually it’s better than that. That graph makes it look like it bops along psychotically, moving rapidly up and down along its jagged little line. But you can actually get granular TRACE data for August 14, when it printed at 0.17%. Here is that data; focus on the 08/14/12 line where dealers sold 50M of bonds to clients at a spread of -10.1bps to Treasuries:

That’s three trades for a total of $150,000 worth of bonds, which breaks down as (1) Dealer A sells $50k to customer at ~10bps below Treasuries, (2) Dealer A buys $50k in interdealer market at ~0 spread to Treasuries, (3) Dealer B sells those same bonds in interdealer market (at ~0 spread to Treasuries since this is just the other side of trade (2)), i.e. one trade, triple-counted. So, that’s one customer calling up his dealer to buy $50,000 worth of bonds. On a $1bn bond issue. Of a $219 billion market cap company. That basically issued debt for fun. Here is how I overactively imagine that call going:

Customer: I want $50,000 of Google 1.25s.
Dealer: Um, just $50,000?
Customer: Yes.
Dealer: That’s annoying. I’m going to have to go find those from another dealer. I’m going to overcharge you by like 20bps of yield – T-minus-10 instead of T-plus-10 – so I can make this trade worth my while.
Customer: Okay, so … how much am I overpaying you?
Dealer: Eh, 20bps of yield on bonds with ~21 months left, call it 0.35% of par, so on $50,000, you’re paying me an extra … $175.
Customer: One hundred seventy-five dollars? That’s fine, I have special reasons for wanting a tiny quantity of this bond.
Dealer: Also, just FYI, a few months from now, my overcharging you by $175 for this Google bond is going to be evidence of the decline in the full faith and credit of the United States government.
Customer: That will be odd, won’t it?

I’m not sure all of those bonds that have traded inside Treasuries look like that, though I will say the Google one is the first one I looked at. But – probably? I highly enjoyed Peter Tchir’s imaginary story about credit index trading; the gist is worth repeating here:

[After a bunch of hypothetical trades the CDX index] moved over 2 bps and not one single trade had anything to do with “valuation” or “fundamentals”. Thinking that all moves reflect a change in fundamentals or a large scale change in risk positioning is just wrong in a market that is as illiquid as this – and [IG index CDS] is about as liquid as it gets in the credit markets.

You know what is not as liquid as it gets in the credit markets? Odd lots of a novelty Google bond.

To be fair! There is much to ponder here – the usefulness of benchmarks, the shrinking supply of Treasuries and AAA structured credit that makes high-IG corporate bonds more attractive, the coming demand for high-IG collateral for derivative clearing, the fiscal cliff, etc. etc. Maybe even “Google’s balance sheet is better than the Treasury’s,” though I’m not convinced by that; feel free to fight to the death about it in the comments.2 In any case, though, if policy makers do want to listen to bond markets as they make their policies, I’m all for that. Bond markets are smart, you should listen to them. Just don’t listen too hard. Bond markets don’t actually mean everything they say.

The New Haven for Investors [WSJ]
Treasury Dominance Over Corporate Debt Queried [Deal Journal]

1. Also a mess:

For instance, Procter & Gamble in August sold $1 billion of 18-month floating-rate notes at 0.10 percentage point below three-month Libor. That Libor rate is 0.31 points, so the P&G bonds now trading at full value or “par” are yielding 0.21% versus the comparable fixed-rate Treasury due February 2014 that is yielding 0.22%.

It don’t work that way! That’s three-month P&G vs. fifteen-month USTs! One-year Libor is like 87bps.

2. I mean, it obviously is, as a balance sheet, but remember that printing press. Buy gold!

24 comments (hidden to protect delicate sensibilities)
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Comments (24)

  1. Posted by 2_Small_2_Bail | November 7, 2012 at 7:18 PM

    Forget debt. Our dividends are safer than US Treasuries.

    -Exxon "Big Daddy" Mobil

  2. Posted by Jay | November 7, 2012 at 7:35 PM

    Here is that data; focus on the 08/14/12 line where dealers sold $50M of bonds to clients at a spread of -10.1bps to Treasuries: (that's $50,000 not $50,000,000. you're article is wrong.)

  3. Posted by Jay | November 7, 2012 at 7:38 PM

    $50,000 is an odd lot and often trades differently than round lots (at least $1,000,000 or more). In this case a dealer sold bonds to an idiot "investor." Probably someone without a bloomberg terminal or a Sultan in Dubai.

  4. Posted by annoyin grammar nazi | November 7, 2012 at 8:16 PM

    Focus on the second line where Jay uses parentheses. (Your use of "you're" is wrong.)

  5. Posted by RetailMarkUp | November 7, 2012 at 9:31 PM

    Jay: in Bondland, 50M = $50,000 and 50MM = $50,000,000. Matt obviously understood this based on the following text, and you still chose to point his (non) typo out.

    Good point though?

  6. Posted by Guest | November 7, 2012 at 10:48 PM

    Let the fight to the death continue!

  7. Posted by @AlephBlog | November 8, 2012 at 12:09 AM

    Matt, fair points about the illiquidity of unique corporates. If the inversion ever happened in size, there would be hedge funds shorting corporates, buying Treasuries, and writing CDS…

  8. Posted by Duh | November 8, 2012 at 8:02 AM


    – equities investor

  9. Posted by Beerio | November 8, 2012 at 9:26 AM

    Except if the inversion ever happened in size the CDS would be inverted too, so….

  10. Posted by Fast Eddy | November 8, 2012 at 9:33 AM

    "Buy gold!" Yes, please do. Your institutional counterparties are no match for my grassroots network.

  11. Posted by guest | November 8, 2012 at 9:45 AM

    WOW! My 1st exposure to the exciting world of fixed income investments. Where do I sign on?

    UBS multi deck Blackjack quant……..

  12. Posted by Avid Reader | November 8, 2012 at 9:56 AM

    Great stuff, Matt! Of course printing presses don't make for guaranteed repayment. Just ask LTCM circa 1998 and all the other "smart money" that was long Russian GKOs/OFZs against the offshore because nobody ever defaults on their domestic debt.

  13. Posted by Trickster | November 8, 2012 at 10:07 AM

    Good point on inversion. Some people may think that generating 10bb of free cash flow each year while holding 45bb in cash or equivalents (albeit in offshore locales) but only issuing 6bb in debt makes Google a pretty solid credit… Certainly better than a treasury.

  14. Posted by Guest | November 8, 2012 at 10:28 AM

    One point about corporate bonds is that they can represent an option on the company's assets, and so may go for a premium over a bond of similar risk which has no recourse.

    If Google goes bust (not likely, but possible), you get a chance at that sweet sweet Google Books inventory of 19th-century obscure out-of-copyright texts. If the U.S. Federal government decides to default on its Treasuries (again not likely, but possible – e.g., because it's facing rampant dollar inflation and you are a foreign bondholder who is a lower priority than combating inflation), you get an option on a seat in a courtroom in a futile effort to recoup your losses.

    Yes, it's a very slight difference, and really only significant for bonds that are not at comparable prices to Treasuries, but it's still there.

  15. Posted by lucas | November 8, 2012 at 10:29 AM

    Weren't those Russian bonds dollar-denominated?

  16. Posted by Matt's invisible pal | November 8, 2012 at 11:07 AM

    Matt, you have excellent imaginary conversations.

  17. Posted by Snuffleupagus | November 8, 2012 at 12:46 PM

    Well, they're OK I guess.

  18. Posted by Avid Reader | November 8, 2012 at 1:18 PM

    Not the local market ones. The "arb" was buy GKO/hedge with NDF/sell USD bond.

  19. Posted by Avid Reader | November 8, 2012 at 1:19 PM

    …and in the last chapter, the Russians kept paying on their USD bonds even as they restructured all their local RUB ones!

    You'll see it all when the LTCM movie comes out.

  20. Posted by lucas | November 8, 2012 at 2:14 PM

    So why not just print more rubles?

  21. Posted by Avid Reader | November 8, 2012 at 2:22 PM

    Because once you have enough foreigners owning your domestic debt instruments, it becomes more cost-effective to jam everyone into a bad deal and bail out your banks than pay the debt off with printed money and impoverish your citizens. All the HFs dug their own graves.

    Cue Asian CBs and USTs…

  22. Posted by Guest | November 8, 2012 at 2:30 PM

    \//\// e s t s i d e

  23. Posted by lucas | November 8, 2012 at 2:51 PM

    Good point. But why not screw over the foreigners owning USD bonds for good measure?

  24. Posted by Avid Reader | November 8, 2012 at 3:23 PM

    That's what I mean. Treasury has an incentive to ask creditors to restructure rather than ask the Fed to print money (=buy securities in the "open market") to repay everyone. But the only reason they HAVE that incentive is because there are so many foreigners owning USTs that there's a net benefit to US entities from default (assuming that the loss of creditworthiness costs less than the gain from default/NPV haircut for foreigners, etc.).

    Basically the same situation as the Russians were in in 1998.