US bond rout rings alarm bells, as focus turns to Treasury auction

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By Tom Westbrook, Rae Wee and Dhara Ranasinghe

SINGAPORE/LONDON (Reuters) – U.S. Treasuries, the bedrock of the global financial system, were hit by fresh selling pressure on Wednesday, in a sign that investors were dumping their safest assets as turmoil unleashed by U.S. tariffs prompts forced selling and a dash for cash.

Yields on 10-year Treasury notes jumped to a seven-week high, while the dollar, also a traditional safe haven, weakened against other major currencies in further evidence that confidence in the world’s biggest economy has been shaken.

As U.S. trading got going, some analysts said the situation was deteriorating in some corners of the market where investors had loaded onto debt and the focus was turning to an afternoon auction of the benchmark note, as the next major signal for investors about demand for government bonds.

“The combination of limited foreign participation and domestic levered funds likely pulling back risk presents a tough backdrop for this sale,” Wells Fargo said in a note.

Even so, two market sources said the situation had not hit crisis levels and that trading had been volatile but orderly.

One of the sources said they had extended their books a little more to help clients with financing and “everyone’s on alert”, but “it’s fairly orderly.”

The rout in the roughly $29 trillion Treasury market comes alongside a dramatic fall in stocks since Trump unleashed a tariff war last week, leaving investors searching for assets that might protect them from losses.

The rise in Treasury yields, which move inversely to prices, dragged borrowing costs across the globe higher, raising pressure on central banks and policymakers to act fast to shelter economies facing a sharp slowdown as the highest U.S. tariffs in more than 100 years took force.

Rising government borrowing costs filter across to corporate loans and mortgages, meaning what happens in bond markets can cause economic damage to businesses and households.

Japan will cooperate with the Group of Seven advanced economies and the International Monetary Fund to help stabilise a market rout, the country’s top currency diplomat said.

The Japanese 30-year government bond yield surged to 21-year highs and Britain’s 30-year bond yields rose to their highest since 1998. In contrast, German 10-year bonds were steady.

Long-dated bonds were the focus of intense selling from hedge funds, which had borrowed to bet on usually small gaps between cash and futures prices.

Thirty-year Treasury yields rose 20 bps to 4.92%. They have surged 53 bps over three days, their biggest three-day jump since 1982 .

The selloff in long-dated bonds pushed the gap between two and 10-year yields to the widest since 2022.

“You look at what happened to the curve last night, that was pretty extreme by anyone’s metrics – 2s-10s steepening 30 basis points in a few hours; I’ve certainly never seen that,” said Candriam Senior Fixed Income Portfolio Manager Jamie Niven.

STEMMING A CRISIS

Japan’s central bank, finance ministry and banking regulator called an unscheduled meeting to discuss the moves, which pulled back some of the extreme selling.

The Federal Reserve may need to cut rates by more than expected or offer a targeted lending facility, similar to the measures taken during the COVID crisis and global financial crisis, some analysts said.

Despite the growing speculation, Deutsche Bank analysts said Fed intervention was unlikely “given uncertainty around tariff policies and the likely significant inflationary effects.”

But they added: “What could prompt Fed intervention, however, is a breakdown in market functioning.”

Others have pointed to potential changes in global trade flows over the long run slowing foreign buying of U.S. debt, or that foreign holders could turn sellers.

Soft demand for the U.S. Treasury’s $58 billion auction of three-year notes fuelled worries about tepid interest in the $39 billion sale of 10-year notes and a $22 billion auction of 30-year bonds on Thursday. The cost of insuring against a U.S. default meanwhile has risen.

“Markets are now concerned that China and other countries could ‘dump’ U.S. Treasuries as a retaliation tool,” said Grace Tam, chief investment adviser at BNP Paribas Wealth Management in Hong Kong.

BASIS TRADE

Warning signals have flashed for a few days as spreads between Treasury yields and swap rates in the interbank market collapsed under the weight of bond selling.

Hedge funds were at the heart of it because their lenders could no longer stomach large positions betting on small differences between cash Treasuries and futures prices, or swaps, as markets started to swing on tariff headlines.

“When the prime broker starts tightening the screws in terms of asking for more margins or saying that I can’t lend you more money, then these guys obviously will have to sell,” said Mukesh Dave, chief investment officer at Aravali Asset Management, a global arbitrage fund based in Singapore.

The so-called “basis trades” are typically the domain of macro hedge funds. They rely on selling futures contracts or paying swaps and buying cash Treasuries with borrowed money, with a view to exploiting slight price differences.

As they dumped Treasuries this week, bond yields have soared and fallen out of sync with swaps. At the 10-year tenor, the gap has shot to 64 basis points, the largest on record.

“There is of course the bond basis trade that is being unwound,” Deutsche Bank’s George Saravelos said in a note.

“But there is something larger at play as well: a policy objective of reducing bilateral trade imbalances is functionally equivalent to lowering demand for U.S. assets as well.”

(Reporting by Tom Westbrook, Rae Wee and Ankur Banerjee in Singapore; Additional reporting by Tomo Uetake and Junko Fujita in Tokyo, Scott Murdoch in Sydney, Dhara Ranasinghe and Alun John in London; Writing by Paritosh Bansal; Editing by Kim Coghill, Jacqueline Wong, Toby Chopra, Alison Williams, Mark Heinrich and Andrea Ricci)