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This episode aired on Bloomberg Tv on Feb 7, 2013

Treasury Floaters

Q. So the news is that the Treasury is planning on issuing floating rate securities later this year…

A. Yep, and it’s a big deal, their first new product in 15 years, since TIPS. Remember that with TIPS, the principal amount of the bond changes over time with the CPI– the new floaters would be the first time treasury has issued securities where the interest changes over time. Obviously, a great instrument if you’re worried about inflation.

Q. And why now?

A. Well, that’s a good question. The short answer is: to get lower rates on the issuance date. But many people think that at these rates, Treasury should be locking in long term fixed obligations. Naturally, these raise the specter of the government’s interest rate expenses rising very rapidly if overall rates shoot up… right now, everything is fixed rate so there’s a bit of protection for that.

Q. And what will the peg for the interest rate resets be? Obviously we’ve had a lot of issues with LIBOR and EUROBOR lately…

A. That’s actually the big holdup now, trying to figure out what benchmark to use, given the scandals around the bank-set rates. I’d hope they’d use a real open, liquid, market rate, maybe their own T-bills.

Q. Now, from an investors point of view: how will these stack up against TIPS?

A. Well, both offer significant protection against rising rates, which is definitely a huge issue in the market today– people just aren’t getting paid enough for the duration risk they’re taking. But here’s an interesting point: TIPS should offer better protection in a deflationary market, because their interest rate is fixed and their principal doesn’t adjust down below the issue price. So if you like to play chess and make multi-purpose moves, they may remain the more conceptually attractive.

Q. OK, and when does all this happen?

A. Treasury is targeting late this year, and investors can be expected to really pile in. The US will get the low interest rates at issue that it wants… but watch out for the long term, when the readjustment features of these could actually help propel a big interest rise.