REFILE-Direct bidders a new reality for Treasury auctions

(Refiles to include IFR analysts’ titles)

* Direct bidder makeup may be different across the curve

* Dealers have not changed bidding processes

* U.S. government cost of borrowing not seen affected

By Emily Flitter

NEW YORK, May 14 (BestGrowthStock) – A controversial feature of
recent U.S. Treasury auctions is gaining grudging acceptance
among the community of banks and other financial institutions
charged with linking the U.S. Treasury and the wider market for
U.S. government debt.

Primary dealers, the 18 firms authorized to bid on behalf
of their customers at Treasury auctions, have seen their
takedown share of recent auctions diminished by a growing
number of Treasury buyers who have obtained their own bidding
terminals.

The subject has made it to the top of lists of issues
primary dealers have taken to government officials during
regular meetings. When the phenomenon first began, dealers
complained bitterly.

“It’s a big amount of the demand for the auction that used
to go through the dealer community and is now sidestepping the
dealer community,” said Rick Klingman, managing director of
Treasury trading at BNP Paribas in New York.

Primary dealers have argued that these auction
participants, known as direct bidders, were upsetting the
auction process and could ultimately raise the U.S.
government’s cost of borrowing by driving up Treasury yields.

So far, that has not happened.

Primary dealers widely concluded that Wednesday’s $24
billion 10-year note auction was a success because the high
yield the government had to pay on the 10-year notes auctioned
fairly matched the yield at which older 10-year notes were
trading at the same time in the open market. At that auction, a
quarter of the bids accepted came from direct bidders.

Instead of complaining about the high percentage of
directs, however, several dealers who commented immediately
following the auction said they represented strong buy-side
demand — a positive for the market.

“Why are the dealers upset? I don’t know,” said John
Spinello, Treasury bond strategist at Jefferies & Co. in New
York, a primary dealer. “It’s more of a level playing field in
my opinion for those entities going directly to the Fed and not
to primary dealers.”

The Treasury Department does not release information on how
many direct bidders participate in each auction or who they
are, but data on the allotment of securities distributed at
each auction has allowed analysts to make rough guesses about
the types of institutions that make up the pool of direct
bidders.

Based on Treasury data, which is released on a lag of
between two weeks and a month, one set of direct bidders
appears to be the institutions that are trying to obtain
permission from the Federal Reserve Bank of New York to become
primary dealers, such as TD Bank and MF Global. This can be
determined by subtracting the percentage of an auction awarded
to primary dealers from the percentage awarded to all
broker-dealers.

In the shorter maturity issues such as two-year and
three-year notes, the direct bid award is nearly identical to
the difference between the broker-dealer total and the primary
dealer award.

For 10-year notes, the direct bid appears to come from
domestic investment funds. While there has been little
statistical change in the amount of recent 10-year auctions
awarded to foreign participants, the direct bid has increased
and there has been a statistically significant increase in the
amount awarded to domestic investment funds.

Some of these funds, now flush with cash pulled from other
markets amid anxiety over the Greek debt crisis, may in the
past have gone to dealers to place their Treasury bids. And
dealers have argued that without the customer orders they used
to get, they have trouble deciding what to bid at each
auction.

But dealers also admit they have not changed their bidding
processes. If they did, they would risk garnering criticism
from the New York Fed, which keeps track of primary dealers’
bidding behavior and makes sure the dealers are living up to
their commitment to take down a certain percentage of each
auction.

As one Treasury market participant who did not want to be
named put it: “In this environment there’s a lot more stick
than there is carrot for a primary dealership.”

Stock Investing
(Additional reporting by IFR Markets Global Managing Analyst
for Rates Kenneth Logan and IFR Markets Fixed Income Analyst
Courtney Drake in Boston; Editing by Leslie Adler)

REFILE-Direct bidders a new reality for Treasury auctions