What Are On-the-Run Treasuries?
Key takeaways
– On-the-run Treasuries are the most recently issued U.S. Treasury securities of a given maturity and are the most actively traded.
– Because they are scarce and highly liquid, on-the-run issues typically trade at slightly higher prices and therefore have marginally lower yields than older, off-the-run Treasuries—this difference is often called the liquidity premium.
– Traders use on-the-run Treasuries as market benchmarks, for hedging, and in relative-value/arbitrage strategies (for example, selling on-the-run and buying similar off-the-run issues). Long-term investors may prefer off-the-run securities for yield if liquidity is not important.
– Primary public sources: TreasuryDirect for issuance/auction info; market-data providers (Bloomberg, Reuters) for live prices and liquidity metrics. (Source: Investopedia — On-the-Run Treasuries)
Understanding the mechanics of on-the-run Treasuries
– Definition: An on-the-run Treasury is simply the newest Treasury note or bond issued for a particular maturity (e.g., the latest 2‑year note, 5‑year note, 10‑year note). When the Treasury issues a newer note of that maturity, the previous “new” issue becomes off-the-run.
– Liquidity and scarcity: Because on-the-run issues are the freshest and most widely quoted, they attract the most dealers and electronic market-making interest. There are only a limited number of the newest issues outstanding relative to the broad set of older securities, making them relatively scarce.
– Pricing effects: Higher liquidity and greater dealer inventory/support usually mean on-the-run issues trade at a small premium—so their yields are slightly lower than comparable off-the-run securities.
– Benchmarks and market usage: On-the-run Treasuries are commonly used as reference rates for pricing, building the yield curve (constant-maturity series are often based on on-the-run quotes), and as hedges in futures/repo markets.
Comparing on-the-run and off-the-run Treasuries
– Liquidity
– On-the-run: Highest liquidity, tightest bid-ask spreads, easiest to trade in large size without moving the market.
– Off-the-run: Less frequently quoted, wider spreads, less dealer inventory.
– Price and yield
– On-the-run: Typically slightly higher price → slightly lower yield.
– Off-the-run: Typically slightly lower price → slightly higher yield.
– Use cases
– On-the-run: Preferred for hedging, market-making, short-term trades, and benchmark references.
– Off-the-run: Attractive for buy-and-hold investors seeking incremental yield when liquidity is less important.
– Availability
– On-the-run: Only a small number of securities are “on-the-run” at any time.
– Off-the-run: Large universe of older issues across coupon and issue dates.
Pros and cons of investing in on-the-run Treasuries
Pros
– Liquidity: Easier execution, smaller transaction costs on large trades.
– Benchmarking: Readily used as benchmarks and hedges (futures, swaps).
– Lower transaction slippage: Better for institutional-sized trades and short-term hedging.
Cons
– Lower yield: Pay a liquidity premium—slightly worse yield compared with off-the-run alternatives.
– Costly for buy-and-hold investors: If you don’t need the extra liquidity, you may sacrifice return.
– Arbitrage flows and volatility: Because on-the-run securities are central to relative-value trades, they can experience intensive short-term flows around issuance, auction, or news.
Practical steps — how to use on‑the‑run Treasuries (for retail and institutional investors)
1) Decide your investment objective
– Need high liquidity/short-term hedging? Prioritize on-the-run.
– Seeking yield and planning to hold to maturity? Consider off-the-run alternatives.
2) Find the current on-the-run issues
– TreasuryDirect (www.treasurydirect.gov) lists recent auction results and issue dates.
– Market-data platforms (Bloomberg, Reuters) identify which CUSIP/maturity is currently on-the-run and provide live bid/ask, volumes, and depth.
3) Compare yields and liquidity
– Pull yields for the on-the-run issue and a set of off-the-run bonds of similar maturity and duration.
– Look at bid-ask spreads, recent trade sizes, and dealer quotes to quantify liquidity differences.
– Calculate the yield pick-up (off-the-run yield minus on-the-run yield). Determine whether the pick-up compensates for lower liquidity.
4) Choose an execution route
– Primary auctions: Retail investors can participate directly in new-issue auctions via TreasuryDirect (competitive or noncompetitive).
– Secondary market: Use a broker-dealer or electronic trading platform to buy/sell on-the-run or off-the-run securities. Expect tighter spreads on on-the-run.
– ETFs/funds: If you want exposure to Treasury duration without buying individual issues, consider Treasury ETFs—note ETFs hold a mix of on- and off-the-run securities and have their own liquidity/profile.
5) Consider hedges and financing
– For trading or arbitrage, you may use Treasury futures, interest-rate swaps, or repos to hedge or finance positions.
– If selling an on-the-run security short and buying off-the-run (a common relative-value trade), ensure repo financing is available and account for financing costs and margin.
6) Monitor roll risk and issuance cycle
– When a new on-the-run is issued, the previous on-the-run becomes off-the-run, which can change liquidity and price dynamics. Incorporate rollover/transition timing into your exit plan.
7) Manage risks
– Interest-rate risk: Duration and convexity apply as with any Treasury.
– Liquidity risk: Off-the-run can be harder to exit in size.
– Funding/repo risk: Important if using leverage or short positions.
– Counterparty risk: If trading through dealers or using derivatives, check counterparty credit arrangements.
Example relative-value/arbitrage idea (hypothetical)
– Situation: The current 10-year on-the-run yields 1.50%, and a comparable off-the-run 10-year of similar duration yields 1.55% (yield spread = 5 bps).
– Strategy: Sell the on-the-run (short) and buy the off-the-run (long) to capture the 5-basis-point liquidity premium.
– Requirements/considerations:
– Financing: You likely borrow the on-the-run via repo and receive cash to buy the off-the-run—check repo rates, haircuts.
– Carry: You earn the coupon difference and pay financing costs; this impacts net carry.
– Basis and roll risk: If the spread widens or narrows unexpectedly or if a new on-the-run is issued (changing liquidity dynamics), the trade can lose money.
– Execution costs: Bid-ask, borrowing costs, and margin can erode profit—this is usually an institutional strategy.
Where on-the-run Treasuries are used in markets
– Yield curve construction and constant-maturity series.
– Pricing benchmarks for swaps, corporate bonds, and structured products.
– Collateral in repo and securities lending markets.
– Hedging with Treasury futures and options.
Bottom line
On-the-run Treasuries are the newest, most liquid Treasury issues and therefore serve as market benchmarks and convenient hedging instruments. Their liquidity tends to produce a small pricing premium (lower yield) relative to older, off-the-run Treasuries. Whether to use on-the-run or off-the-run depends on your objective: prioritize liquidity and ease of trading for short-term or hedging needs, or prioritize yield and potentially lower cost by selecting off-the-run for buy-and-hold strategies. Institutional investors often exploit the on/off-the-run spread via relative-value trades but must account for financing, execution costs, and basis risk.
Sources
– Investopedia — On-the-Run Treasuries: https://www.investopedia.com/terms/o/on-the-runtreasuries.asp
– U.S. Department of the Treasury — TreasuryDirect: https://www.treasurydirect.gov
(Information above is educational and not investment advice. Consider speaking with a licensed financial advisor or broker for decisions specific to your situation.)
(Continuation)
Why On-the-Run Matter in Markets
– Benchmarking and quotes: Market participants, media and economists frequently quote yields on on-the-run issues (for example, the “10-year Treasury yield”) because they are the most liquid, easily observable prices that reflect current market conditions. Using on-the-run yields as market benchmarks provides clean, high-frequency signals for rates and risk pricing. (Source: Investopedia)
– Repo and collateral markets: Dealers and institutional investors prefer on-the-run Treasuries as collateral in repurchase (repo) and securities lending markets because of their liquidity and ease of financing. This preference reinforces their liquidity premium.
– Hedging and derivatives: Futures and most standardized hedges are referenced to the most liquid maturities; hedgers typically use on-the-run issues to implement duration hedges or to hedge interest-rate exposure.
Additional Practical Steps for Different Investors
1) Retail/Individual Investors — If you want liquidity and simple execution
– Step 1: Decide your goal: trading/liquidity (short holding periods) vs buy-and-hold income.
– Step 2: Use your brokerage or TreasuryDirect to access new issues or the secondary market. For immediate liquidity or when managing short-term cash, prefer on-the-run issues.
– Step 3: If you do not need the incremental liquidity, search off-the-run issues or ETFs (e.g., short- or intermediate-term Treasury ETFs) for slightly higher yield at similar credit quality.
– Step 4: Consider tax treatment: Treasury interest is subject to federal tax but exempt from state and local income taxes (check IRS guidance). Confirm broker fees and bid/ask spreads.
2) Institutional Traders / Arbitrageurs — If you seek to exploit the liquidity premium
– Step 1: Monitor the on-the-run/off-the-run spread for a given maturity (expressed in basis points).
– Step 2: Secure financing (repo) terms and the ability to borrow/short on-the-run securities.
– Step 3: Execute a relative-value trade: short the on-the-run and buy the off-the-run (or equivalent via futures/cash basis trades) when the spread is historically wide enough to cover expected costs.
– Step 4: Manage risks: financing/repo cost, potential widening of the spread, delivery/settlement risk, and regulatory or position limits.
– Step 5: Close positions when spread mean-reverts or when your target return is reached.
3) Portfolio Managers — If you are constructing duration or yield strategies
– Step 1: Establish duration target and liquidity needs.
– Step 2: Use on-the-run securities or futures for tactical hedges where quick execution is required.
– Step 3: Use off-the-run securities to capture incremental yield if you can tolerate lower immediate liquidity.
– Step 4: Rebalance and roll positions mindful of issuance cycles (new issues shift on-the-run status).
Concrete Examples
Example A — Simple liquidity premium illustration
– Suppose a newly issued (on-the-run) 5-year note yields 1.50% and an off-the-run 5-year yields 1.60% — a 10 basis point (0.10%) yield differential.
– For a $1,000,000 position, that 10 bps annual difference equals $1,000 in additional interest per year (0.0010 × $1,000,000).
– If you plan to hold for a year and don’t need the extra liquidity, buying the off-the-run could earn you that extra $1,000 (before transaction costs and taxes).
Example B — Simplified arbitrage concept
– On-the-run 10-year trades tighter (lower yield) than off-the-run by 5 bps.
– An arbitrageur shorts $10 million of the on-the-run and uses proceeds to buy $10 million of the off-the-run.
– If the spread narrows from 5 bps to 1 bp, the trader earns the change (4 bps) on $10 million = $4,000, minus financing and transaction costs.
– Important: this simplified example omits repo financing costs, margin requirements, and roll/credit risk, all of which can eat into or invert expected profits.
Risks and Limitations
– Basis risk: The on/off spread can widen further after you enter a trade; realized returns are uncertain.
– Financing and carrying costs: Repo rates and borrowing costs for shorts can be material and variable.
– Liquidity mismatch: While on-the-run are more liquid, during stressed markets liquidity can reduce for all securities.
– Regulatory and position limits: Institutions face capital and limit constraints that affect how sharply they can exploit spreads.
– Market timing and competition: Many market participants monitor the same spreads; opportunities may be fleeting and require speed and scale.
How On-the-Run Dynamics Affect Common Strategies
– Riding the yield curve: Investors who buy a security to “ride down” the yield curve (capital gain as it ages) may prefer on-the-run issues for the ease of sale; however, cheaper off-the-run securities may offer better long-term carry.
– Laddering and barbell: Choice between on- and off-the-run depends on trade-off between liquidity needs (favor on-the-run) and yield maximization (favor off-the-run).
– Hedging with futures: Since futures and market-implied hedges reference the most liquid maturities, using on-the-run securities minimizes basis risk in the short term.
Practical Tools and Where to Look
– TreasuryDirect (treasurydirect.gov) for primary issue details and maturities.
– Broker-dealer platforms for secondary market prices, bid/ask spreads, and the ability to short securities.
– Financial data providers (Bloomberg, Refinitiv, etc.) and public markets pages for on-the-run yield quotes commonly reported in the financial press.
Regulatory, Tax and Accounting Notes
– Interest from Treasuries is federally taxable but exempt from state and local income taxes. Confirm with the IRS or your tax advisor for specifics.
– Accounting for short positions and repo financing has balance-sheet and regulatory capital implications for institutions.
Additional Considerations for Investors
– Time horizon: If you don’t plan to trade frequently, small yield advantages in off-the-run may be preferable.
– Transaction costs: Bid/ask spreads on off-the-run can be wider; the savings from higher coupon may be offset by execution costs.
– Portfolio liquidity rules: Many institutional mandates require certain amounts of highly liquid assets; on-the-run Treasuries typically satisfy those constraints.
Concluding Summary
On-the-run Treasuries are the most recently issued U.S. government notes and bonds of a given maturity and are the market’s go-to securities for liquidity, benchmarking and hedging. They typically command a small liquidity premium—trading at higher prices and lower yields than older, off-the-run issues. For fast execution, hedging, or as collateral, on-the-run securities are preferred; for long-term buy-and-hold investors seeking slightly higher yield, off-the-run issues can be an efficient alternative. Institutional traders can attempt to capture the on/off spread through relative-value trades, but such strategies require careful attention to financing costs, execution risk and regulatory constraints. Weigh your liquidity needs, time horizon, transaction costs and tax situation when choosing between on-the-run and off-the-run Treasuries. (Source: Investopedia—see “On-the-Run Treasuries.”)
References
– Investopedia: “On-the-Run Treasuries.” https://www.investopedia.com/terms/o/on-the-runtreasuries.asp
– U.S. Department of the Treasury / TreasuryDirect: https://www.treasurydirect.gov
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