Signs of stress in the Treasury market
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A who’s who of financial regulatory agencies are convening Wednesday to talk about how to ensure the $22 trillion Treasury market functions properly.
At issue: Fixing liquidity problems that have, at times, exacerbated price swings.
Why it matters: U.S. Treasuries are the benchmark for all other financial markets. Large price moves here mean a revaluing of all the assets pegged to them — everything from U.S. corporate bonds to equities to mortgages.
State of play: Signs of illiquidity have cropped up this year, even as the Federal Reserve has been plowing extra funds into the market with its monthly bond purchases.
- “We're near peak liquidity as far as global central banks go, and we're seeing some signs that all is not well … It’s unsettling,” Mark Cabana, rates strategist at BofA, tells Axios.
What's happening: For one, there was the startlingly weak auction for 30-year Treasuries last week on the back of worse-than-expected inflation data.
- Markets in the 20-year Treasury note have also experienced low liquidity. So have those in certain Treasury futures, as well as Treasury inflation-protected securities breakevens (an indicator of inflation expectations), BofA analysts wrote in a report on Monday.
Context: The plight stems from a pullback on the part of macro hedge funds that faced steep losses on their positions earlier in the fall — and have stepped out of the market, Cabana says.
- But events of the recent past — from a sloppy auction back in February to the market’s near-collapse in March 2020 — also underly the current dialogue.
The backstory: Primary dealers — mainly banks who facilitate liquidity by making markets in the paper — have scaled back their activity due to capital constraints imposed by post-financial crisis regulations.
- But over the same period, the Treasury market has ballooned to nearly $22 trillion, from $5 trillion.
The seventh annual U.S. Treasury Market Conference on Wednesday — featuring speakers like SEC chair Gary Gensler and New York Fed President John Williams — isn't going to solve liquidity for the bond market.
- But it is going to bring high-level representatives from the government sector together with market participants from the private sector who buy and sell the bonds that fund our government.
- Regulators don't want to be reactive to one-off events or short-term blips — they do want to pave the way for a better functioning market that isn't prone to large and disorderly moves.
What’s next: Wednesday's discussions — and the potential studies and papers that come out of them — could help inform policymaking.
- Treasury has already proposed reforms like expanded central clearing of trades, gathering better data on positions and transactions, and investigating the role that levered hedge funds play in the market.
Go deeper: Inflation data spurs weak 30-year Treasury auction
