It is an important part of the Hungarian national debt, yet we hardly know anything about it: what is the Discount Treasury Bill good for?

What is a Discount Treasury Ticket and what is it good for?

On the government securities market, government securities with a maturity of no more than one year at the time of issue, issued at a discount rate and paying a 100% rate at maturity are called Discount Treasury Bills, which mainly play a role in ensuring liquidity. Discount Treasury Bills are sold at auction by the countries, and there is also a secondary market where they are traded at an exchange rate corresponding to the current quotation.

The essence of Discount Treasury Bills is that they do not have a classic coupon, but are purchased by investors below face value (with a discount), from which their yield can be calculated. A concrete example: an investor bought the one-year Discount Treasury Bill at the last auction, on April 11, for example, at an exchange rate of 93.55 percent, and then he gets the full face value back at maturity, which gives him an annual yield of 6.8 percent.

In debt management, the role of DKJs is primarily to ensure adequate short-term liquidity. By issuing these papers, the state can smooth out any fluctuations in the need for financing. From the investor’s point of view, these are the safest investments among the low-risk government securities, which of course is usually reflected in their returns. For investors, short government securities are a competitive alternative to bank deposits and money market funds as short, safe and liquid assets. Moreover, in the majority of cases, their yield is higher than the interest available with deposits.

The Discount Treasury Bills are sold at auctions by the ÁKK, for which investors can submit bids through the Primary Distributors. Depending on the received offers and the advertised quantity, the ÁKK decides how much of them it will accept.

• There is an auction of the 3-month DKJ every Tuesday,
• the 6-month paper is currently every other Wednesday,
• and the 12-month-old is sold every second Thursday.

Besides retail investors can buy these short papers directly (on the secondary market) or through the Hungarian State Treasury.

The role of treasury bills in Hungary and Europe

Currently, every DKJ series in circulation has a secondary market price quotation, meaning that investors can trade it continuously. There is also a way to hold so-called liquidity DKJ auctions shorter than 3 months, which can be announced based on an individual decision. ÁKK has not used this tool for a long time, as it is no longer needed due to the advanced liquidity management and planning tools systematically expanded by the debt manager in recent years. ÁKK uses the repo market to manage liquidity needs that last for a few weeks.

Starting from 2015, primarily as a result of the decreasing deficit and the rise of the residential program, and then as a result of the low yield environment, the role of Discount Treasury bills in the Hungarian market first gradually decreased. From 2022, following the increase in yield, the stock began to rise again. At the end of March 2024, the amount outstanding is HUF 1,944 billion, which is 3.58 percent of the debt of the central budget. Much earlier, this instrument had a much bigger role, since in 2014 it reached 10 percent of the total debt.

In addition to the evolution of yield levels, the change was also justified by the fact that the ÁKK aimed to extend the remaining term of the debt, and in addition, there were no liquidity shocks in the state’s financing that would have justified the larger issue. In other words, even though there was even greater investor interest in Discount Treasury Bills, the ÁKK accepted limited bids at the auctions.

Of course, discount T-bills for short-term debt financing and ensuring liquidity do not only exist on the Hungarian market, Most countries in Europe have a similar device. Moreover, since September 2021, the European Commission has also been issuing common EU discount treasury bills with a maturity of less than one year. With this, the Commission aims to ensure a regular and stable market presence and promote market liquidity. They also want to address a new group of investors with the short papers. Two auctions are held every month, at which 3- and 6-month discount treasury bills are sold.

In the region a Polish the Ministry of Finance only uses the instrument of discount treasury bills if the liquidity situation justifies it. This has not been done for years, the last series of discounted treasury bills expired in 2021, which means that there is currently no such instrument on the Polish market. in the Czech Republic According to the statistics at the end of February, there are three- and six-month discount treasury bills in circulation worth a total of 65 billion kroner, which is 2.1 percent of the total stock of government securities.

Among the European countries in Germany At the end of 2023, discounted treasury bills (Bubill) amounted to 149 billion euros within the entire debt portfolio, which represented 6.6 percent of all government securities. Last year, the German state issued a total of more than 200 billion euros worth of short-term, one-year notes. In the plans for 2024, an amount less than this, 165 billion, is included, of which 55 billion has been realized so far. In the case of the Germans, all Bubill series have a term of 12 months, they are re-opened from time to time, so in practice they sell papers between 3 and 12 months. The situation is similar in Italy also, where EUR 125.5 billion worth of discounted treasury bills represented 5.15 percent of the total stock of securities at the end of March. Even bigger than these French discount treasury bill market, where the stock currently in circulation exceeds 180 billion euros.

Who has the Hungarian Discount Treasury bills?

In the Hungarian market, two-thirds of DKJs are in the hands of investment funds and the general public, the former buy mainly because of legal requirements, and the latter because of their short-term investment preference. The stock in the hands of households has been built up in recent years, the background of which will be discussed in detail in a subsequent article.

Due to the difference between the MNB deposit rate and DKJ yields, which is constantly decreasing, banks do not buy discount T-bills for their own books, holding DKJ is still too expensive in the current environment. This may change or normalize with the MNB’s one-week deposit rate/base rate and DKJ yields.

The graph shows that the closing of the central bank’s benchmark interest rate and DKJ yields has already begun, it is expected that in the coming months the central bank interest rate will be almost at the same level as the yield levels. And this can stimulate the demand of institutional actors (mainly banks and investment funds) in this market.

In the year 2024 ÁKK introduces two market-developing innovations on the DKJ market: on the one hand, it significantly reduced the number of DKJ series in circulation starting from January 2024, on the other hand

will also hold exchange auctions for the DKJ from mid-May.

The reduction in the number of currently available DKJ series was achieved by changing the selection criteria for the series offered at the 3-month DKJ auction. Before the change in January 2024, a DKJ with a maturity of 91 days was issued every week. If such a series was not available among the previously issued DKJ series, a new DKJ series was always put on the market, as a result of which roughly 20 series were available at the same time, three-quarters of them with an extremely low outstanding stock. Since the introduction of the new emission system, a given DKJ series – longer than 91 days – is auctioned 4-6 times in the framework of 3-month auctions, thanks to which the number of DKJs currently available has decreased to 8. By reopening a series several times, their outstanding stock increases significantly, thereby supporting their secondary market liquidity.

On the investors’ side, in order to concentrate the higher holdings from the individual DKJ series and to smooth the maturity profile of the state, the ÁKK will also announce exchange auctions for DKJ(s) on a weekly basis from mid-May 2024. Within this framework, investors will have the opportunity to sell DKJ series with a remaining term of close to one and a half months or less through the Primary distributors in exchange for longer, previously auctioned Discount Treasury Ticket(s).

What drives DKJ yields?

As in all (well-functioning) freely tradable markets, in the case of DKJs, demand and supply must primarily drive returns, i.e. their development depends on how many short-term government securities are issued by the ÁKK, and how much the market demand. In addition, two important indicators are worth considering:

• the interbank interest rate (BUBOR) and
• the expected yield (implied yield), as the market usually converges to these.

THE at the interbank interest rate lower DKJ yields Long term they can be derived primarily from the fact that ÁKK had no unforeseen liquidity needs thanks to its diversified, multi-pronged financing model, which, combined with the strategy aimed at extending the remaining term of the debt, resulted in a moderate amount of DKJ issuance on the market. In the meantime, however, due to the purchases of index-tracking funds and compliance with the regulatory requirements for a part of the institutional investor group, there was continuous demand on their part, as a result of which the primary and secondary market yield levels became increasingly distant from each other.

From 2022 – after the yield increase – the increase in DKJ stock experienced can be traced back to two reasons:

• In the high yield environment, ÁKK did not want to fix interest expenses for the long term, so it once again provided more space to the DKJ market,
• at the same time, in addition to the additional demand of institutional investors, the public also entered the market with a significant volume due to the high yield levels.

In other words, we can basically talk about a supply-driven market, since

in addition to the continuously existing demand, the yield is primarily influenced by the amount ÁKK provides on the supply side.

In order to support the DKJ market, the ÁKK decided to implement the previously detailed measures aimed at market development and to respond more flexibly to market needs.

Of course, there may be temporary anomalies or regulatory changes, when the relationship between supply and demand factors does not work perfectly in the short term and yields may deviate from their (perceived) equilibrium level. In the long run, of course, the market will return to its equilibrium level, taking into account or bypassing the diverting factors, which, if they persist, will become part of the market framework and market participants will price them.

In the continuation of our article, the relationship between the DKJ market and residential government securities will be discussed in more detail.

The author is an employee of the Government Debt Management Center.

Cover image source: Getty Images