Something significant has happened in recent months: buying 10-yr US treasuries is no longer profitable. It is not only Europeans or Japanese, there now isn’t any global fixed income investor that can make decent money by buying hedged USTs.
Last week’s TIC data confirmed something the Fed’s Treasury custody account has indicated for the past several months: foreign demand for US government bonds has not only tumbled, but there has been aggressive selling.
So much so, in fact, that in the past 12 months foreign central banks have sold a gargantuan $335 billion in US Treasuries (and $242 billion when looking at all foreign transactions including private).
But how is this possible: after all the yield differential between US government bonds and the rest of the DM complex is approaching record wides.
It turns out that the answer lies in the ongoing blow out of the cross-currency basis, i.e., the implicit global dollar shortage, something we highlighted several months ago, and which has only gotten worse in the months since, following the spike in dollar hedging costs and short-term funding costs (see Libor).
The collapse in demand for US paper as a result of the blow out in swap spreads is the topic of this morning’s FX Daily by Deutsche Bank’s George Saravelos who notes in a note titled “It’s Gone” that “a remarkable hunt for yield has taken place over the last few years. Foreigners have fled negative rates and flocked to US fixed income to take advantage of positive rates. Currency hedging these purchases has been a popular strategy: investors buy long-end bonds and use short-dated forwards to eliminate the FX risk.”
However, apropos to the current basis spread environment, something significant has happened in recent months: buying 10-yr US treasuries is no longer profitable. It is not only Europeans or Japanese, there now isn’t any global fixed income investor that can make decent money by buying hedged USTs.
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