U.S. Treasury Market Worries About Low Liquidity

A sharp sell-off in US Treasuries has increased concerns about low levels of liquidity in the $23.5 trillion market, potentially amplifying losses for investors which already had a dire start to the year, Davide Barbuscia and Ira Iosebashvili reported for Reuters.

Photo Insert: Investors say liquidity concerns this year have not reached the point of threatening market functioning, but concerns have increased for several factors.

US government bond yields have spiked this year as the Federal Reserve has sounded more hawkish about how aggressively it will hike interest rates to cool the economy, hitting bond returns.

The ICE BofA Treasury Index has recorded its worst start to the year in history, down 6%. While liquidity in the US Treasury market has been an ongoing issue, traders and investors said there had been particular concerns during this sell-off.

"People who buy longer-dated Treasuries, such as pensions, central banks, and insurance companies, tend to stay away when you have this type of volatility," said Ed Al-Hussainy, senior rates, and currency analyst at Columbia Threadneedle, adding that liquidity "is not good" and that trading big blocks of Treasuries "has become very difficult."

The market for Treasury securities is typically one of the most liquid in the world, and the global financial system uses the instruments as a benchmark for asset classes.

But it has seen liquidity issues, such as in late February and early March 2020, when pandemic fears caused market ruptures and liquidity rapidly deteriorated to 2008 crisis levels, prompting the Fed to buy $1.6 trillion of Treasuries to increase stability.

Investors say liquidity concerns this year have not reached the point of threatening market functioning, but concerns have increased for several factors. One is that the Fed has ceased buying US Treasuries, after ending this month a bond-buying program aimed at supporting the economy during the coronavirus crisis. "We are adjusting to that new world where the Fed is not a buyer," Al-Hussainy said.

Some investors are also concerned that wild price swings in the commodities markets due to the Ukraine crisis and sanctions on Russia, a commodities export giant, could create pockets of illiquidity in the financial system.

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