Foreigners flock to Treasuries

If foreigners have had their fill of Treasuries, they sure have a funny way of showing it.

More than 60% of government bond issuance in the third quarter was sucked up by international investors, the Fed said Thursday in its quarterly flow of funds report.

The U.S. government issued $391 billion of Treasuries during the third quarter, according to the data. The "rest of the world" category accounted for $245 billion of purchases, bringing foreign ownership of outstanding U.S. debt to 47%.

The world is our oyster

The report doesn't provide the identities of the purchasing countries, though it is no secret that both China and Japan have been buying U.S. bonds this year. Both are net exporters in the habit of recycling the proceeds of their trade surpluses with the United States by buying American bonds.

This has the effect of improving their terms of trade by boosting the value of the dollar, though the entire practice is coming to be seen in a less friendly light with unemployment here on the verge of breaking back into the double digits. Some economists say trade tensions are bound to rise in coming years unless the U.S. recovery suddenly finds new legs.

The report comes at a time when investors are wondering for the umpteenth time about the global appetite for U.S. bonds. Treasury bonds suffered a wicked selloff Tuesday and Wednesday, bringing the yield on the 10-year Treasury to its highest level since the spring, following the release of a plan to extend tax cuts and provide new stimulus spending.

The selling pressure subsided Thursday, and the yield on the 10-year note slipped to 3.21% in afternoon trading.

Of course, the Fed has positioned itself as the biggest buyer of Treasury debt in coming months, via the unpopular quantitative easing program under which it has pledged to buy $600 billion of Treasuries over eight months. Should the Fed complete that program as scheduled, its Treasury holdings will rise by 75%.

Critics of QE2 have made no small amount of noise about how the Fed is positioned to buy up practically all the supply of new Treasury bonds between now and June. But in doing so it may also end up giving big Treasury holders a steady bid they can sell into, in a re-enactment of the widespread sales of mortgage bonds during the first round of QE last year.

What any overseas Treasury sellers end up buying – U.S. stocks, anyone? – could end up having an outsize effect on the markets here.