Auction Preview: US to sell USD 69bln of 2-year notes at 18:00BST/13:00EDT

US 2-YEAR NOTE RECENT AUCTION HISTORY:

• High Yield: (prev. 4.071%, six-auction avg. 3.726%)
• Tail: (prev. 0.0bps, six-auction avg. 0.1bps)
• Bid-to-Cover: (prev. 2.64x, six-auction avg. 2.61x)
• Dealers: (prev. 12.3%, six-auction avg. 13.0%)
• Directs: (prev. 30.1%, six-auction avg. 29.1%)
• Indirects: (prev. 57.6%, six-auction avg. 57.8%)

PREVIEW

The current 2-year yield trades around 4.22%, above both the prior auction's high yield of 4.071% and the six-auction average 3.721%. Front-end yields have moved higher over the past week following a hawkish shift from the FOMC. The Committee removed forward guidance, reinforced its commitment to price stability and delivered a more hawkish set of economic projections, helping support front-end yields. The hawkish Fed has offset some of the downside pressure that would typically accompany the sharp decline in energy prices following the US-Iran memorandum of understanding and the reopening of the Strait of Hormuz.

The BofA MOVE Index has fallen back to around 65, returning to levels seen prior to the conflict and below the 78 level prevailing at the time of the previous auction. The combination of higher yields and lower volatility may prove supportive for demand, particularly compared to the backdrop facing investors at the prior offering.

Recent auction results provide mixed but generally constructive signals. The June 3-year auction was slightly soft relative to recent averages, although demand improved from the prior month, and both direct and indirect participation increased marginally. Since then, geopolitical uncertainty has eased considerably following the US-Iran agreement. The first nominal coupon auction following the agreement, the 20-year bond sale, was met with very strong demand, suggesting investors were willing to add duration as a major source of uncertainty was removed.

The policy backdrop has also shifted notably since the previous 2-year auction. The June FOMC meeting delivered a clear hawkish message, while the subsequent 5-year TIPS auction attracted exceptionally strong demand. Markets are currently pricing around 40bps of hikes through year-end, fully pricing one 25bp rate hike and assigning roughly a 60% probability to a second. Meanwhile, Bank of America expects the FOMC to hike three times this year. 

Overall, the auction benefits from a combination of higher outright yields, lower market volatility, reduced geopolitical uncertainty and a more hawkish Federal Reserve. 

Note: The Treasury announced that if auction of 2-year notes on June 23 results in high yield in range of 4.00% to 4.124%, 2-year notes will be considered additional issue of outstanding 5-year notes issued June 30, 2023. Results of 2-year note auction could result in unscheduled reopening of 5-year notes of Series Aa-2028.