J.P.Morgan: Tsy Market Depth Back Falls To Levels Not Seen Since Late ‘21

J.P.Morgan note that “Treasury market depth has retraced to levels last seen late in the winter of 2021 after a historically weak 7-Year auction, and otherwise to levels that were only seen only around the worst of market dysfunction in the spring of 2020. Similarly, the Root Mean Square Error of our Treasury par curve, a measure of dispersion in off-the-run Treasuries, has continued to drift higher, indicating less efficient pricing in off-the-runs. More specifically, we can also observe this reduced liquidity even within the on-the-run space. Treasury has been reducing auction sizes in 7-Year notes and 20-Year bonds more aggressively than in other tenors, because it leaned heavily on these products as auction sizes rose sharply in 2020, but to also address relative liquidity issues in these sectors. We project further cuts along these lines later this year as well to address these liquidity concerns. However, it’s abundantly clear that until these tenors reach more appropriate sizes, they will suffer in bouts of heightened volatility and reduced liquidity. Indeed, the 20s/30s curve flattened more than 1bp today, retracing to the flattest levels observed late last year, even as the 10s/30s curve steepened more than 2bp and sits 5bp off its flattest levels. These two curves have moved in relative lock step over the last 6 months with 20s/30s flattening 0.5bp for each 1bp flattening in 10s/30s. As a result of these movements, the 20s/30s curve appears more than 2bp too flat given the slope of 10s/30s. It’s tempting to want to add exposure to the 20-year sector to positon for mean reversion, but we are not sure the sector will outperform substantially until volatility moderates.”