Non competitive bidding

What Is Non competitive bidding?

Non competitive bidding is a method used primarily in government securities auctions, such as those conducted by the U.S. Treasury, allowing investors to purchase a specified quantity of securities at the price or yield determined by the competitive bids in the same auction. This approach falls under the broader category of debt markets. It provides a straightforward way for individual investors and smaller entities to acquire government debt without needing to analyze market conditions or predict the precise yield or discount rate that will prevail. Instead, the investor agrees to accept the terms set by the competitive segment of the auction. Non competitive bidding ensures that the bidder will receive the requested amount of securities, up to a specified maximum limit.

History and Origin

The concept of non competitive bidding in U.S. Treasury auctions has a notable history, designed to broaden participation in the financing of government debt. The Treasury Department introduced provisions for non competitive bids for Treasury bills in 1947. This allowed smaller investors to participate without needing the specialized market knowledge of larger institutions. Prior to the early 1970s, the Treasury also used fixed-price offerings for notes and bonds, but shifted towards market-driven auctions for these securities between 1970 and 1975 to enhance efficiency. Today, all U.S. Treasury marketable securities are sold through auctions, and non competitive bidding remains a key component, with the maximum bid limit for such bids on Treasury bills, notes, bonds, Treasury Inflation-Protected Securities (TIPS), and Floating Rate Notes (FRNs) updated over time to accommodate various investor needs.¹⁶,¹⁵ The Federal Reserve also plays a significant role in supporting the U.S. Treasury's auction process by accepting and processing tenders and issuing securities to successful bidders.¹⁴,¹³

Key Takeaways

• Non competitive bidding allows investors to purchase U.S. government securities without specifying a yield or price.
• The investor agrees to accept the yield or price determined by the competitive segment of the auction.
• This method guarantees that the investor will receive the full amount of securities requested, up to the maximum bid limit.
• It is particularly favored by individual investors and those seeking simplicity in their investment process.

Interpreting the Non competitive bidding

When an investor places a non competitive bid, they are essentially signaling their willingness to purchase a certain quantity of Treasury securities at whatever the prevailing market-determined price turns out to be. For example, if the U.S. Treasury is auctioning Treasury notes, a non competitive bidder doesn't try to outbid others. Instead, they commit to buy the notes at the highest yield accepted from the competitive bidders. This mechanism simplifies participation for investors who are less focused on optimizing their entry price and more concerned with simply securing a position in the security. It means that the investor receives a fair market price, as that price is set by large institutional participants engaged in intense competitive bidding.

Hypothetical Example

Suppose the U.S. Treasury announces an auction for $50 billion in 13-week Treasury bills. An individual investor, interested in purchasing $10,000 worth of these bills, decides to place a non competitive bid.

1. Bid Submission: The investor accesses TreasuryDirect, the U.S. Treasury's direct online platform for purchasing government securities, and submits a non competitive bid for $10,000 of the 13-week Treasury bills before the non competitive bidding deadline.
2. Auction Close: On the auction day, the Treasury first allocates securities to all accepted non competitive bids.
3. Competitive Bidding: Next, competitive bids, primarily from primary dealers and large institutions, are accepted in ascending order of their discount rate (or descending order of price) until the remaining portion of the offering is filled.
4. Yield Determination: The highest yield at which competitive bids are accepted becomes the "high yield" or "stop-out yield." All successful bidders, both competitive and non competitive, receive their securities at this single yield.
5. Investor Outcome: The individual investor's $10,000 non competitive bid is filled in full at this high yield, guaranteeing them the desired amount of Treasury bills.

Practical Applications

Non competitive bidding is primarily used by investors looking to buy U.S. Treasury securities directly from the government. This includes Treasury bonds, notes, bills, TIPS, and FRNs. Its practical applications extend to:

• Retail Investment: It provides an accessible entry point for individual investors to participate in government securities auctions without the complexity of competitive bidding strategies. This simplifies the investment process, making it suitable for those not actively involved in financial markets.¹² Many individual investors use platforms like TreasuryDirect to submit non-competitive bids, often avoiding brokerage fees associated with intermediaries.¹¹
• Guaranteed Allocation: Unlike competitive bids, where allocation is uncertain and depends on the bid's competitiveness, non competitive bids guarantee that the desired quantity of securities will be received, up to the stated maximum. This assurance is valuable for investors prioritizing certainty of acquisition over price optimization.¹⁰
• Simplicity: Investors do not need to analyze market interest rates or predict the auction's clearing price. They accept the outcome determined by the broader market, which is usually the weighted average yield of accepted competitive bids in a multiple-price auction or the highest accepted yield in a single-price auction.⁹

The U.S. Treasury conducts approximately 325 auctions each year to fund federal government operations and refinance maturing debt, and non competitive bidding plays a role in these widespread offerings.⁸

Limitations and Criticisms

While non competitive bidding offers simplicity and guaranteed allocation, it also has limitations. The primary drawback is that the investor has no control over the price or yield received. They implicitly agree to accept the price set by competitive bidders, which might not be the absolute best price if the investor had significant market insight or advanced risk management strategies. This means a non competitive bidder might pay a slightly higher price (or receive a lower yield) than some competitive bidders who successfully bid at a more favorable rate.

Furthermore, there are limits on the maximum amount that can be submitted via a non competitive bid (currently $10 million per auction for most Treasury securities).⁷ This naturally restricts large institutional investors from using this method for substantial purchases, pushing them towards competitive bidding. Some research indicates that primary dealers, who are major competitive bidders, may have an advantage in optimizing their bids due to informational asymmetries, which could indirectly affect the yield determined for non-competitive bidders.⁶ Despite its benefits for ease of access, the lack of control over the final interest rates can be seen as a criticism by sophisticated investors seeking to maximize their returns in various financial markets.

Non competitive bidding vs. Competitive bidding

The key distinction between non competitive bidding and competitive bidding lies in the level of control and risk assumed by the investor during an auction.

While non competitive bidding prioritizes certainty and ease of access, competitive bidding is for those who aim to secure the best possible price or yield, requiring a deeper understanding of market dynamics and auction strategies.⁵

FAQs

Who typically uses non competitive bidding?

Non competitive bidding is most commonly used by individual investors, small institutions, and those who prioritize simplicity and guaranteed allocation of U.S. Treasury securities. They often access this option directly through platforms like TreasuryDirect.⁴

Is a non competitive bid guaranteed to be filled?

Yes, a non competitive bid is guaranteed to be filled in full, up to the maximum bid limit set by the U.S. Treasury. The investor will receive the quantity of securities they requested.³

How is the price determined for a non competitive bid?

The price (or yield) for a non competitive bid is determined by the results of the competitive bidding portion of the auction. In a single-price auction format, all successful bidders, including non competitive ones, receive the securities at the highest yield (lowest price) accepted from the competitive bids.²

Can I change my non competitive bid after submitting it?

Yes, typically you can change or cancel a non competitive bid up until the non competitive close time on the auction day. After this deadline, bids are final.¹