The On-the-Run/Off-the-Run Spread

When the Treasury auctions a new 10-year note, that bond becomes the on-the-run issue — the benchmark everyone quotes, hedges against, and trades in size. A few months later, once a fresh 10-year is auctioned, the older bond becomes off-the-run: it still has almost exactly the same maturity and coupon-like cash flows, but trading volume migrates almost entirely to the new benchmark. The old bond doesn't stop being a safe, liquid Treasury, yet it trades noticeably less often, with wider bid-ask spreads and a smaller pool of ready buyers.

That difference in liquidity alone shows up as a yield gap: the on-the-run bond typically trades a few basis points richer (lower yield) than the off-the-run bond of essentially the same maturity, purely because investors will pay a small premium for the ease of trading the benchmark issue. In a stress episode this on-the-run/off-the-run spread can widen sharply — sometimes to 20–30bp instead of a typical 2–5bp — as liquidity gets even more concentrated in the newest issue and off-the-run bonds become harder to sell without a discount. Relative-value traders sometimes bet on this spread mean-reverting — buying the cheaper off-the-run bond and selling the richer on-the-run bond, expecting the gap to narrow once the next auction cycle shifts benchmark status again — though the trade can lose money for a stretch if a fresh liquidity shock widens the gap further before it converges.