AFR Article: Friday 11 June 2021. Page 8

The federal government has paid a negative interest rate on $1 billion borrowed from institutional investors, the first time on record the total cost of a Treasury debt sale has fallen below zero.

Institutional investors such as foreign pension funds, insurers and banks need to park their money for short periods of time in safe assets and will pay the Australian government to hold their funds for the next three months.

Yesterday investors paid between -0.010 per cent and zero to lend $1 billion to the federal government until September.

The historic financing reflects central banks’ suppression of interest rates by buying government bonds in the secondary market, and the huge amounts of cash sloshing around the world’s financial system.

It also suggests debt investors have become less worried about a potential breakout in global inflation. Bond yields spiked in February on bets of higher inflation from the Biden administration’s $US1.9 trillion ($2.5 trillion) spending stimulus.

Yesterday the government’s debt manager, the Australian Office of Financial Management (AOFM), sold a three-month Treasury note attracting a weighted average yield of -0.0034 per cent.

The negative yield on short-term government debt is partly being driven by foreign investors engaging in a currency arbitrage, market sources said.

Investment banks are buying the debt on behalf of offshore investor clients, making a loss on the yield but earning a profit on three-month forward foreign exchange contracts.

The debt raising was more than eight times oversubscribed, with total bids of $8.65 billion.

AOFM head Rob Nicholl said demand for Australian government debt was strong. ‘‘We would expect that to remain for quite some time, particularly while the banks are not issuing their own short-term bank bill paper,’’ he said.

Banks are flush with funding thanks to deposits by households and businesses that are cashed up from government stimulus payments.

Banks also have access to cheap 0.1 per cent, three-year loans from the Reserve Bank of Australia’s $210 billion term funding facility.

They are therefore discouraging institutional investors such as superannuation funds from increasing bank deposits, forcing investors to put their money into other debt instruments such as low-yielding government debt.

The Treasury note sale was the first time successful bids in a government debt auction ranged from negative territory to zero and that the total cost of the debt raising was negative.

In December the government sold $1.5 billion of debt, some of which paid a negative interest rate of -0.01 per cent to investors. But overall, the weighted average yield on the three-month Treasury note last year was slightly positive at 0.0099 per cent.

Bond rates are falling sharply as fears of an inflationary spike subside. The Australian 10-year bond rate has slid to 1.43 per cent from 1.65 per cent just a week ago, and a two-year peak of 1.85 per cent reached in late February.

‘‘Money is looking for a home as QE from central banks floods the system with cash,’’ said ALTIUS Asset Management co-founder Chris Dickman.

‘‘Counterparties are pretty happy to get zero per cent at the moment,’’ he said. ‘‘It also reflects an impression that the inflation story is cooling.’’

Earlier this week, Mr Nicholl said the government was committed to holding a large stockpile of cash to meet its funding needs in a crisis and to manage outlays such as GST transfers to the states.

The government’s cash balance at the RBA is raised through the issuance of Treasury notes. It peaked around $70 billion last September and has run down to about $30 billion at present.

The RBA is currently paying commercial banks zero to deposit excess funds with it. The policy is designed to encourage banks to seek higher returns by lending to households and businesses, or lending to the government for a positive yield on longer-term bonds.

Non-bank institutional investors, which cannot deposit cash with the RBA, are investing in other risk-free assets, such as government debt.