Why did the US Treasury plunge on the 25th happen? If you look for the reason for this, you’ll find a lot of evidence suggesting that it was triggered by technical rather than fundamentals.
The indigestion of government bond auctions, the possibility that the $ 50 billion (about 5.33 trillion yen) holdings have been resolved, and the loss of liquidity have amplified the movement. Traders have revised their outlook for a US interest rate hike significantly, despite no major changes in economic trends or policymakers’ statements.
“It’s not an orderly sale, and it doesn’t seem to have been driven by a clear fundamental pattern of continuation or an extension of reflationary deals,” NatWest Markets strategist Blake Gwin said in a customer report. He said many more “technical” factors were intertwined in a typical buyer-absent environment.
Some of the factors are as follows.
5-year bond yield and 7-year bond auction
Attention in the bond market was the five-year US Treasury, which is often linked to the long-term outlook for the policy rate. Yields on 5-year bonds rose 22 basis points (bp, 1bp = 0.01%) to close the 25th. The Butterfly Spread Index, which shows the performance of 5-year bonds against 2-year and 10-year bonds, rose 24bp to the worst daily performance since 2002.
The reason for the sale was that demand was record weak in the 7-year bond auction. The bid-to-cover ratio was 2.04 times, well below the recent average of 2.35 times, and the 5-year bond yield surged to over 0.75%.
Height adjustment
With the surge in yields, traders rushed to adjust their holdings. Short-term government bonds fell sharply and the yield curve flattened, especially hitting the popular steepening position in reflationary trading.
According to preliminary data, the open interest balance of all US Treasury futures has decreased by $ 50 billion in terms of index 10-year bonds. There may be some inaccuracies in the data due to possible rollovers, but it still suggests that a large position has been rewound.
| Maturity |
Change in number of contracts (net of rolls) |
$m value of 1 basis point move |
|---|---|---|
| TU (2-year) | 591 | 0.27 |
| FV (5-year) | -124,152 | -6.89 |
| YOU (10-year) | -174,423 | -14.98 |
| UX (Ultra 10-year) | -50,986 | -6.99 |
| US (Long bond) | -24,158 | -4.72 |
| WN (Ultra bond) | -44,792 | -15.76 |
| Total | -417,920 | -49.61 |
Also, when the index US 10-year bond yield hit 1.5%, it rose immediately after a 10bp surge and then fell immediately, suggesting that some traders had a long stop loss.
—Source: Bloomberg
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Separation from fundamentals
The gap between the bond market and fundamentals is most apparent in short-term bonds. Despite the lack of clear material, the market’s outlook for the US policy rate trajectory has been revised and Eurodollar futures have fallen with record volumes.
The start of the US interest rate hike, which the market incorporates, is now March 2023, ahead of the previous mid-year. A total rate hike of more than 50bp is expected within the same year.
Dialing Up
Markets reprice for a more aggressive Federal Reserve rate hike cycle
Source: Bloomberg
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Loss of liquidity
The dryness of the bond market when traders needed it most could also be a factor.
“The excessive yield volatility on the 25th may have been contributed by the sharp contraction of the market,” said Jay Barry, a strategist at JPMorgan Chase, in a customer report. He also pointed out that high-frequency traders tend to withdraw quickly from the bond market when volatility rises rapidly.
—news-rsf-original-reference">Original title:
Chaotic Treasury Selloff Fueled by $50 Billion of Unwinding (1)(Excerpt)
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