What Is Off the Run Treasury?
An off-the-run treasury refers to any U.S. Treasury security that is not the most recently issued for a given maturity. These bonds and notes, part of the broader category of Fixed Income securities, are seasoned issues that continue to trade actively in the secondary market. Unlike their newly issued counterparts, known as on-the-run treasury securities, off-the-run treasuries generally exhibit less liquidity due to their wider dispersion among investors and less concentrated trading activity. Despite this, they represent the vast majority of outstanding marketable U.S. Treasury securities.
History and Origin
The distinction between on-the-run and off-the-run Treasuries naturally arose as the U.S. government began regular issuance of debt to finance its operations. As new bonds and notes were auctioned and entered the market, the previously issued securities of the same tenor would cede their "on-the-run" status. This dynamic became particularly pronounced with the evolution of modern bond market structures and trading practices. The preference for on-the-run issues by large institutional investors and traders, particularly for hedging and speculative activities, led to a clear bifurcation in market liquidity. During periods of significant market stress, such as the COVID-19 crisis in March 2020, liquidity for off-the-run securities notably deteriorated, with bid-ask spreads widening sharply for longer-dated issues.7,6
Key Takeaways
- Off-the-run treasuries are previously issued U.S. Treasury bonds and notes that are no longer the most current offering for their specific maturity date.
- They typically trade with higher yields and lower prices compared to equivalent on-the-run treasuries, reflecting a liquidity premium.
- The vast majority of outstanding U.S. Treasury debt comprises off-the-run securities.
- While less liquid than on-the-run issues, off-the-run treasuries remain highly traded and serve important roles in portfolio management and price discovery.
Interpreting the Off the Run Treasury
The interpretation of off-the-run treasury securities largely revolves around their relative value and liquidity characteristics. Since these securities are less actively traded than on-the-run issues, their prices may not always reflect the instantaneous market sentiment as readily. Analysts often consider the yield curve constructed from off-the-run yields to gain a more stable view of underlying interest rates, as it can be less susceptible to temporary distortions caused by intense demand for the benchmark on-the-run issues.5 The difference in yield between an on-the-run and a comparable off-the-run security is often seen as a measure of the liquidity premium in the market.
Hypothetical Example
Consider an investor, Sarah, who holds a U.S. Treasury note with a 10-year maturity date. When Sarah initially purchased the note, it was the most recently issued 10-year Treasury, making it an on-the-run treasury. Six months later, the U.S. Treasury conducts a new auction and issues another 10-year note. At this point, Sarah's note, while still having approximately 9.5 years until maturity, becomes an off-the-run treasury because a newer 10-year issue now exists. If Sarah decides to sell her off-the-run treasury, she might find the bid-ask spread to be slightly wider than that of the newly issued 10-year note, indicating a marginally higher transaction cost due to its reduced liquidity.
Practical Applications
Off-the-run treasury securities play a crucial role in various aspects of financial markets. Investors looking for slightly higher yields than those offered by on-the-run issues, and who are less concerned with immediate liquidity, often turn to off-the-run Treasuries. These securities are also fundamental for institutional investors engaged in activities like yield curve analysis, hedging, and identifying relative value opportunities. Portfolio managers might execute arbitrage strategies by exploiting price discrepancies between on-the-run and off-the-run issues. Furthermore, the Federal Reserve often includes off-the-run Treasuries in its open market operations, such as quantitative easing programs, to manage overall market liquidity and influence longer-term interest rate risk.4 For example, during the COVID-19 crisis, the Federal Reserve purchased massive amounts of Treasury securities, including off-the-run issues, to restore market functioning.3
Limitations and Criticisms
While off-the-run treasury securities are integral to the Treasury market, they are not without limitations. Their primary drawback is generally lower liquidity compared to on-the-run issues. This can translate to wider bid-ask spreads and potentially larger price concessions for larger trades, making them less suitable for investors requiring immediate and substantial transaction capacity. Research from the Federal Reserve has indicated that bid-ask spreads systematically overstate trading costs for more seasoned Treasuries, highlighting the challenges in accurately gauging their liquidity.2 The lower liquidity can also make their prices more susceptible to market dislocations during periods of stress. Policymakers and market participants continuously monitor the functioning of the off-the-run Treasury market, given its importance to the broader financial system.1
Off the Run Treasury vs. On-the-Run Treasury
The primary distinction between an off-the-run treasury and an on-the-run treasury lies in their issuance status and resulting market characteristics. On-the-run Treasuries are the most recently issued securities for a specific maturity and are considered the benchmark issues. They are characterized by exceptionally high trading volume and superior liquidity, often trading at a premium due to this demand. Conversely, an off-the-run treasury is any previously issued security of the same maturity that is no longer the current benchmark. While still highly liquid compared to other financial instruments, they typically trade with lower trading volumes and consequently a wider bid-ask spread. This difference in liquidity means off-the-run Treasuries usually offer a slightly higher yield to compensate investors for the decreased ease of trading.
FAQs
What does "off-the-run" mean for a Treasury bond?
"Off-the-run" refers to a U.S. Treasury bond or note that was issued previously and is no longer the most recently auctioned security for its specific maturity. It has been replaced by a newer "on-the-run" issue.
Are off-the-run treasuries less safe?
No, off-the-run treasuries carry the same credit risk as on-the-run treasuries, as both are direct obligations of the U.S. government. Their safety is identical. The difference primarily relates to their market liquidity and trading characteristics.
Why would an investor buy an off-the-run treasury?
Investors might buy an off-the-run treasury to capture a potentially higher yield compared to an equivalent on-the-run issue, or as part of a relative value trading strategy. They are also widely used by institutional investors for specific portfolio duration targets or hedging needs.
How does the Federal Reserve interact with off-the-run treasuries?
The Federal Reserve regularly buys and sells both on-the-run and off-the-run treasuries as part of its monetary policy operations, such as quantitative easing or quantitative tightening. These purchases influence market liquidity and interest rates across the entire yield curve.