Zheshang: The interest rate of US Treasury bonds in 2025 may fluctuate widely between 4% and 5%, and liquidity is temporarily not a concern.

Zheshang releases a research report stating that the rapid increase in the yield of the 10-year US Treasury bond since April 7 may be due to excessive disturbance caused by Trump's policies, leading to "basis trading" liquidation. The US bond yield in 2025 may fluctuate widely between 4% and 5%, with limited risks of large-scale liquidity issues in the US dollar and US bond markets after the phase shift of Trump's policies. First, Trump's policies may go through a phase shift, with limited uncertainty in the future after the implementation of the "equal tariffs" policy. Second, the Federal Reserve has ample policy reserves to maintain market liquidity. Third, there has not been a significant decrease in the proportion of overseas market investors buying US bonds. In the future, continuous monitoring of the US bond market auction performance and the overseas holdings in the US Treasury International Capital report (TIC) is recommended. Zheshang's main points are as follows: Large scale of "basis trading" in the US, easily giving rise to financial risks Since April 7, the yield of the US 10-year Treasury bond has rapidly risen, from 4.01% on April 4 to 4.26% on April 8, and reaching 4.5% on April 9. The rapid increase in the yield of US Treasury bonds may be due to the liquidation of "basis trading". A basis point is the price difference between the spot and futures prices of US Treasury bonds. Basis trading refers to trading that involves arbitrage between the futures and spot prices as the futures contract approaches expiration. Traders simultaneously operate in the spot and futures markets, usually buying spot and selling short futures in a single direction to lock in the basis, thereby generating profit through the convergence of the basis. As the price difference in basis trading is usually small, and it requires simultaneous operations in both the spot and futures markets, a large amount of capital is involved. Therefore, hedge funds often use high leverage to magnify profit margins. Normally, the risk of basis trading is low because futures and spot prices tend to fluctuate in sync, and the basis should shrink as the expiry date approaches. However, in the face of extreme market conditions (such as Trump imposing tariffs, public health events, etc.), market volatility may increase significantly, leading to situations where futures and spot prices move in opposite directions. This "low-probability" tail risk will be magnified through the "high leverage" of basis trading, causing losses to investors. In extreme market conditions, large-scale liquidation of basis trading may impact financial market liquidity, and further trigger systemic risks. For example, in March 2020, the increase in market volatility in the US financial market due to a public health event led to widespread liquidation of basis trading by hedge funds selling US bonds, further aggravating the liquidity crisis in the US bond market. According to the Federal Reserve's 2020 Financial Stability Report, from late February to early March 2020, due to market concerns about the public health event escalating, investors began selling long-term Treasury bonds and mortgage-backed securities, exchanging them for more liquid short-term debt, and issues related to the liquidation of basis trading began to manifest, particularly in mid-March when the US bond yield quickly rose from 0.73% on March 16 to 1.18% on March 18. In 2020, the Federal Reserve took multiple measures to stabilize the market. First, on March 3 and March 16, it held emergency Federal Open Market Committee meetings twice, lowering the federal funds rate from 1.75% to 0.25%. Second, it expanded repurchase operations, with the New York Federal Reserve Bank's open market desk increasing the size of overnight and term repurchase operations. Third, it introduced new repurchase tools on March 12, launching $500 billion in repurchase operations to address the disruption in the Treasury financing market. The use of Federal Reserve repurchase operations peaked on March 17, with the outstanding overnight and term repurchases amounting to $496 billion. Since 2023, the volatility of risk assets has decreased, and the scale of basis trading and leverage trading in US financial institutions has increased, leading to increased risk of "negative feedback". Since 2023, the US has maintained a high interest rate environment, but stock prices have risen, corporate bond credit spreads have narrowed, and asset volatility has decreased, with the VIX index dropping to its lowest point since the public health event. The marginal decline in financing costs and volatility has promoted an increase in leverage trading. The Federal Reserve's 2024 fourth quarter Financial Stability Report shows that the average total leverage ratio for hedge funds reached 9 in the first quarter of 2024, the highest since recording began in 2013 (6.5). High leverage points to an increase in the scale of basis trading, with data from the Office of Financial Research (OFR) showing that the net short positions of hedge funds in futures increased rapidly from $0.57 trillion in January 2023 to $1.38 trillion before the November 2025 election, and then decreased to $1.14 trillion in March 2025, still significantly higher than the scale of hedge fund short positions (0.7 trillion) before the outbreak of liquidity risk at the end of February 2020. The uncertainty of Trump's policies is strong, and the deleveraging of "basis trading" may be an important reason for Trump's shift. According to US Treasury Secretary Bezent's statement, Trump mentioned in a long conversation on Sunday that he might "delay" the implementation of tariffs, which is exactly after China counteracted the US's tariff increase. High leverage in basis trading is susceptible to fluctuations, and excessive market volatility may force funds to liquidate, triggering deleveraging, forced selling of US bonds, and further price declines in US bonds. For example, according to the IMF's 2021 report, the deleveraging of basis trading in 2020 was due to the impact of a public health event, where the spread between US bond futures and spot prices widened, and hedge funds engaged in "basis trading" were forced to supplement margin, ultimately leading to deleveraging. Since the implementation of Trump's "equal tariffs" policy, the volatility of the US bond market has significantly increased, with the Market Volatility Index (MOVE) rising from 104.7 on April 1 to 139.9 on April 8, approaching the average level of 151.2 during the Silicon Valley Bank crisis in March 2020. At the same time, the US bond market liquidity pressure index rose from 2.9 on April 1 to 3.2 on April 8, with the average level during the Silicon Valley Bank crisis in March 2020 being around 2.6. Since April 2, the yield spread between the 10-year US Treasury bond and SOFR has rapidly decreased, falling from -43.86 on April 1, 2025 to -60.33 on April 8, reaching its lowest point so far this year, indicating a rapid tightening of US bond market liquidity due to the liquidation of "basis trading". This is because the high leverage in "basis trading" may be affected by extreme market volatility, and excessive market volatility may force funds to liquidate their positions, triggering deleveraging and negatively affecting US bond prices.The liquidity of government bonds is better than that of derivatives contracts. When hedge fund positions are liquidated, banks will sell U.S. government bonds. Due to the large amount of selling, this causes the price of government bonds to decline faster than the interest rate of derivatives contracts, widening the spread between the two.In addition, the pace of April US Treasury auctions and personal income tax will further tighten financial market liquidity. First, the US Treasury auctions. According to US Treasury data, on April 9th, the US Treasury auctioned $39 billion of 10-year Treasury bonds, and on April 10th, there will be an auction for 30-year Treasury bonds. Next week on the 14th and 15th, there will also be auctions for short-term debt with a maturity of less than 1 year. Second, April 15th is the deadline for individual income tax payment. Funds will be transferred from bank reserve accounts to the TGA account, tightening financial market liquidity. In the future, US bond yields may fluctuate widely between 4% and 5%, and US bond liquidity is temporarily safe. In 2025, US bond interest rates may fluctuate widely between 4% and 5%, and with the shift in Trump's policies, the risk of a large-scale fermentation of US dollar and US bond liquidity is limited. First, there is a phased shift in Trump's policies, and uncertainties are limited following the implementation of the "equal tariffs" policy. The SOFR-OIS spread, a measure of the tightness of the US dollar system liquidity, surged to 15.3 on April 8th, close to the levels seen during the Russia-Ukraine conflict and the Silicon Valley bank crisis in March 2023, but quickly narrowed to 0.9 on April 9th after Trump announced a 90-day delay in the "equal tariffs" policy, indicating short-term relief of liquidity pressure. It is expected that after the reduction of uncertainty in Trump's policies, both the volatility and liquidity pressure indices of the US bond market will trend downward. Second, the Fed has sufficient policy reserves to maintain market liquidity. The Fed's monetary policy can "rescue the market" in emergency situations, and the $500 billion repo tool set up in 2020 to address liquidity issues is still effective. On April 8, 2025, this tool briefly provided $100 million in liquidity to the market, but as of April 9, the usage of this tool had dropped back to 0, with $500 billion still available to inject liquidity into the market, and the Fed has the ability to increase the amount at any time. Third, the proportion of overseas market investors buying US bonds has not significantly decreased. In terms of the total amount, as of the end of March 2025, the total amount of US Treasury auctions since Trump took office is $436 billion, with overseas investors contributing $51.3 billion, accounting for approximately 12%, compared to 9% in the same period last year. In terms of the participation of foreign investors in auctions of 10-year and 2-year US Treasury bonds since Trump took office, there has been no significant decrease. However, as auction data may not fully reflect the overall US bond market and have some lag, it is important to continue observing the auction situation in the US bond market and the overseas holdings in the US Treasury International Capital Report. Risk Warning: Unforeseen escalation in US-China trade tensions; unexpected downturn in overseas economies.