Morgan Stanley Says Treasury Buyback Doubles, But the Signal Matters More Than the Size

Morgan Stanley said the U.S. Treasury will double the size of its liquidity-support buyback operations for the 10- to 20-year and 20- to 30-year maturity buckets, raising each operation from $2 billion to at least $4 billion starting Sept. 9. The firm said the move matters less for its size than for the message it sends. In a global macro strategy report published on Aug. 20, Morgan Stanley wrote that Treasury is signaling it is paying close attention to long-end yields and using buybacks to buy time before the November refunding window. The buybacks are meant to improve Treasury market liquidity and are part of the government’s regular buyback program. This is the first time since the program began in May 2024 that Treasury has adjusted the size outside a quarterly refunding window. Morgan Stanley put the scale of the change in perspective. At $4 billion per operation, the two maturity buckets add $1.6 billion in notional size, or about $19.3 million of DV01, the price change for a 1-basis-point move in rates. By comparison, Treasury’s surprise reduction in long-dated issuance in November 2023 carried an estimated DV01 impact of about $10.5 million. The firm said the risk impact of the larger buybacks is roughly twice as large as that earlier supply surprise. The bank said the real significance lies in Treasury’s intent. In its early-August refunding statement, Treasury replaced language saying future auction sizes could increase with wording that they could change. Morgan Stanley said that wording shift opens the door to policy adjustments. The report said Treasury’s decision to expand buybacks before the next quarterly refunding window should be read as a clear signal that it is watching long-end rates closely. Before the November window arrives, buybacks can help stabilize the long end and create room for later action, including a possible cut in long-dated issuance or another policy signal. Morgan Stanley also said supply fears are not the main driver behind the recent rise in yields. If supply concerns were in control, cash Treasuries should have underperformed swaps much more sharply, since investors would be pricing the balance-sheet capacity dealers need to absorb bonds. That has not happened, the bank said. The spread between 10-year cash Treasuries and SOFR swaps has not moved in a way that fits a supply-driven story, while the 2-year to 10-year swap curve has only steepened modestly. Morgan Stanley said the move higher in long-end yields reflects a repricing of energy prices and central-bank policy expectations instead, while deficits and Treasury supply are not the dominant factors. Heavy investment-grade corporate bond issuance has also failed to create a lasting effect on the Treasury market. Corporate supply has been heavy since August, but investors have absorbed the duration risk rather than leaving it on dealers’ balance sheets. Morgan Stanley said concern over corporate supply may fade once September issuance is absorbed, allowing Treasury yields to return to fundamentals. The firm pointed to November 2023 as a precedent. Back then, Treasury unexpectedly slowed long-dated issuance during quarterly refunding, briefly flattening the curve. That move lasted about a week before weaker labor data pushed terminal-rate pricing down by 100 basis points and yields fell again. Morgan Stanley said the current backdrop looks similar to late 2023. Labor, consumption and inflation data all suggest the economy is not overheating, while market pricing for the Fed’s terminal rate remains above the bank’s economists’ forecast. The terminal rate still has room to move lower, and that remains the main driver of curve steepening. On that basis, Morgan Stanley kept its recommendation to position for a steeper 7-year/30-year Treasury curve, with a target spread of 100 basis points versus about 71 basis points now. The foreign-exchange team said the buyback expansion is also relevant for currency markets. Investors read the move as Treasury using its toolkit to modestly lean against dollar strength. The report pointed to two earlier examples this year. On Jan. 27, after President Donald Trump said the dollar should “find its own level,” gold and the Swiss franc jumped together. On Jan. 30, both retreated after the White House nominated Kevin Warsh for Fed chair. On Aug. 19, the combined standardized daily volatility of gold and the Swiss franc hit its highest level of the year, more than four standard deviations. If U.S. currency policy returns to the market’s focus, Morgan Stanley said the dollar could weaken further, especially against the Swiss franc. Based on the two-year German-U.S. yield spread, the implied EUR/USD rate is around 1.18. If a dollar policy premium returns, the pair could rise toward 1.2150. Morgan Stanley said the Treasury’s buyback move has bought the market time, but it has not changed the bank’s core view: curve steepening and dollar weakness remain the main themes. Slower inflation, weaker-than-expected labor data and a shift in the Fed’s reaction function will ultimately drive pricing.