Following our earlier article mentioning the "trillion-dollar US Treasury landmine" (basis trade liquidation) being fully detonated, the selling of US Treasuries further intensified during the Asian session on Wednesday...

Market data shows that the yield on 30-year US Treasuries has soared straight through the 5% mark, with an extremely exaggerated intra-day surge of 25 basis points to 5.010%, reaching the highest level since the end of 2023.

The 10-year US Treasury yield, known as the "global asset pricing anchor," rose by 21 basis points to 4.503%.

US Treasuries Crash, Market in Peril: Is the US Financial System Facing a 'Make-or-Break Moment'?

According to Jim Bianco, founder of the renowned research institute Bianco Research, the yield on 30-year US Treasuries has risen by 56 basis points in just under three trading days since last Friday. The last time yields rose this much in three days was on January 7, 1982. But it's important to note that back then, US Treasury yields were as high as 14% (56 basis points wasn't much at that level). Bianco stated that this historic market movement is clearly caused by forced liquidations.

US Treasuries Crash, Market in Peril: Is the US Financial System Facing a 'Make-or-Break Moment'?

It can be said that this round of US Treasury sell-off has completely deviated from the scope of normal market fluctuations. Industry insiders are now fully focused on two main guesses: ① How significant is the impact of the US Treasury basis trade blow-up? ② Are there really overseas "bondholders" selling US Treasuries?

We have comprehensively explained the topic of the US Treasury basis trade blow-up in our earlier article today, which investors can review on their own.

The well-known financial blog zerohedge has also recently summarized the potential trajectory of events that need to be carefully monitored next:

• The trillion-dollar US Treasury basis trade is blowing up, with countless funds and banks likely liquidating positions;

• Liquidity in the system is far from sufficient;

• The shockwaves of liquidity insufficiency may sweep across all markets, leading to stock market crashes (liquidation panic), bond market collapses (continuously rising yields), and foreign exchange hedging (yen surges... and at some point, a turning point will come when the dollar will be severely short);

• Investors may encounter key liquidity depletion events in the next one or two days (Wednesday's 10-year Treasury auction, followed by Thursday's 30-year Treasury auction). If there is not enough liquidity in the system, we may see an informal auction failure—yes, while a failed auction is impossible—primary dealers, who have the obligation to purchase all unsold Treasuries to prevent auction failure, will step in. However, if the primary dealers' allocation ratio reaches 40% or 50%, it would be almost equivalent to an auction failure.

Zerohedge believes that the results of the two US Treasury auctions in the next 48 hours, as well as whether the Fed will intervene urgently, may be the most critical moment for the fate of the US financial system in modern history.

Nomura interest rate trader Ryan Plantz also warned in an internal memo, "In the Treasury space, swap spreads and basis trades are melting. The US Treasury market is experiencing a large-scale liquidation on a scale unprecedented in my career, and a liquidity vacuum has formed."

US Treasuries Crash, Market in Peril: Is the US Financial System Facing a 'Make-or-Break Moment'?

According to Plantz, the Fed must now step in. Although Powell may be reluctant to appear as if he is bailing out Trump's trade war, he may have no other choice. Plantz pointed out:

The Trump administration's so-called "silent mode" is taking effect—they are allowing market pain to spread. The US government's hardline stance towards trading partners has triggered a real buyer strike, which in turn has caused panic and left the US Treasury market in a demand vacuum. The spectacular collapse of US Treasuries at Tuesday's close has led many practitioners (including myself) to continuously question market rationality— the yield curve has sharply steepened in a bearish manner, with all types of spreads and basis indicators collapsing comprehensively.

The single-day fluctuation in asset swap spreads is astonishing (please note that this is a 24-hour change), which is at least one of the most violent fluctuations I have witnessed in my career. The market has now fully fallen into a liquidity vacuum:

Market discussions have quickly shifted to an intense focus on "when will the Fed step in to rescue the market." We emphasized on Tuesday that unless there are signals such as a surge in repo market financing pressure or banks financing massively through Fannie Mae (similar to the situation during the banking crisis a few years ago), the current turmoil remains a matter of market sentiment and confidence—only when these thresholds are reached will the Fed's "emergency rate cut" likely be put on the agenda.

However, we are now truly feeling that the next shoe may be about to drop. Recall that the core goal of quantitative easing in 2020 was to maintain market liquidity and functionality. If we see another gap-like fluctuation like Tuesday's on Wednesday, measures such as activating the Standing Repo Facility (SRF) and ending quantitative tightening (QT) may quickly be put on the table. I even mentioned "Operation Twist" today... This is the situation we are currently in. But it needs to be clear that the financing market has not yet reached a critical point.

It is worth noting that according to the suggestions proposed by four scholars, including Anil Kashyap of the University of Chicago and former Fed governor Jeremy Stein, in a report at the Brookings Institution last month, the Fed should adopt "hedge-style bond purchases" to address the US Treasury basis trade blow-up, that is, to hedge by purchasing Treasury bonds while selling an equivalent amount of Treasury futures contracts.

Currently, although the scale is as large as a trillion dollars, the main positions of the US Treasury basis trade are actually concentrated in the hands of fewer than 10 hedge funds, represented by Millennium, Citadel, Balyasny, Point72, ExodusPoint, and Lighthouse. The industry estimates that their average leverage ratio is 20 times. This also means that as long as the related basis trade losses reach 5%, they may be completely wiped out and have to post additional margin.

US Treasuries Crash, Market in Peril: Is the US Financial System Facing a 'Make-or-Break Moment'?

Note: The upper chart compares the asset sizes of the six major hedge funds in the previous year and the year before, while the lower chart compares the leverage ratios.

In the past few years, the most severe loss in related trades was in March 2020 at the beginning of the pandemic. At that time, foreign central banks and bond funds facing redemption waves ignited a "cash grab," forcing the sale of the most liquid asset—US Treasuries. This, in turn, severely hit hedge funds that had established large leveraged basis trades, almost turning the chaotic Treasury sell-off into a disastrous financial crisis. In the end, it was the Fed's "massive liquidity injection" of expanding its balance sheet by $1.6 trillion in a single month that managed to quell the disaster.

US Treasuries Crash, Market in Peril: Is the US Financial System Facing a 'Make-or-Break Moment'?

Note: The chart on the right shows the drawdown rate during the bond market sell-off in March 2020.

Of course, one thing that is currently troubling the market is whether there are other forces selling in addition to the basis trade blow-up. An increasing number of investment banks are suspecting that Trump's retrogressive actions on tariffs may trigger more overseas US bondholders to sell US Treasuries.

On Tuesday, Steve Sosnick, chief strategist at Interactive Brokers, said, "Due to tariff frictions with China, they may stop buying and resist US bonds. Japan has the largest US Treasury holdings, but China is also the second-largest foreign holder of US debt. What would happen if this foreign demand source shrinks or dries up completely?"

Sosnick said that in this case, the US Treasury would have to issue bonds at higher interest rates to make up for the loss: "The supply won't go down soon, right? But you have to do something about the demand."

Currently, Japan, the largest "foreign creditor" of the US, has stated that it is not behind the recent US Treasury sell-off—Japan's Finance Minister Katsunobu Kato excluded on Wednesday the possibility of using Japan's holdings of US Treasuries as a bargaining chip against Trump's tariffs on Japanese imports.

Following our earlier article mentioning the "trillion-dollar US Treasury landmine" (basis trade liquidation) being fully detonated, the selling of US Treasuries further intensified during the Asian session on Wednesday...

Market data shows that the yield on 30-year US Treasuries has soared straight through the 5% mark, with an extremely exaggerated intra-day surge of 25 basis points to 5.010%, reaching the highest level since the end of 2023.

The 10-year US Treasury yield, known as the "global asset pricing anchor," rose by 21 basis points to 4.503%.

US Treasuries Crash, Market in Peril: Is the US Financial System Facing a 'Make-or-Break Moment'?

According to Jim Bianco, founder of the renowned research institute Bianco Research, the yield on 30-year US Treasuries has risen by 56 basis points in just under three trading days since last Friday. The last time yields rose this much in three days was on January 7, 1982. But it's important to note that back then, US Treasury yields were as high as 14% (56 basis points wasn't much at that level). Bianco stated that this historic market movement is clearly caused by forced liquidations.

US Treasuries Crash, Market in Peril: Is the US Financial System Facing a 'Make-or-Break Moment'?

It can be said that this round of US Treasury sell-off has completely deviated from the scope of normal market fluctuations. Industry insiders are now fully focused on two main guesses: ① How significant is the impact of the US Treasury basis trade blow-up? ② Are there really overseas "bondholders" selling US Treasuries?

We have comprehensively explained the topic of the US Treasury basis trade blow-up in our earlier article today, which investors can review on their own.

The well-known financial blog zerohedge has also recently summarized the potential trajectory of events that need to be carefully monitored next:

• The trillion-dollar US Treasury basis trade is blowing up, with countless funds and banks likely liquidating positions;

• Liquidity in the system is far from sufficient;

• The shockwaves of liquidity insufficiency may sweep across all markets, leading to stock market crashes (liquidation panic), bond market collapses (continuously rising yields), and foreign exchange hedging (yen surges... and at some point, a turning point will come when the dollar will be severely short);

• Investors may encounter key liquidity depletion events in the next one or two days (Wednesday's 10-year Treasury auction, followed by Thursday's 30-year Treasury auction). If there is not enough liquidity in the system, we may see an informal auction failure—yes, while a failed auction is impossible—primary dealers, who have the obligation to purchase all unsold Treasuries to prevent auction failure, will step in. However, if the primary dealers' allocation ratio reaches 40% or 50%, it would be almost equivalent to an auction failure.

Zerohedge believes that the results of the two US Treasury auctions in the next 48 hours, as well as whether the Fed will intervene urgently, may be the most critical moment for the fate of the US financial system in modern history.

Nomura interest rate trader Ryan Plantz also warned in an internal memo, "In the Treasury space, swap spreads and basis trades are melting. The US Treasury market is experiencing a large-scale liquidation on a scale unprecedented in my career, and a liquidity vacuum has formed."

US Treasuries Crash, Market in Peril: Is the US Financial System Facing a 'Make-or-Break Moment'?

According to Plantz, the Fed must now step in. Although Powell may be reluctant to appear as if he is bailing out Trump's trade war, he may have no other choice. Plantz pointed out:

The Trump administration's so-called "silent mode" is taking effect—they are allowing market pain to spread. The US government's hardline stance towards trading partners has triggered a real buyer strike, which in turn has caused panic and left the US Treasury market in a demand vacuum. The spectacular collapse of US Treasuries at Tuesday's close has led many practitioners (including myself) to continuously question market rationality— the yield curve has sharply steepened in a bearish manner, with all types of spreads and basis indicators collapsing comprehensively.

The single-day fluctuation in asset swap spreads is astonishing (please note that this is a 24-hour change), which is at least one of the most violent fluctuations I have witnessed in my career. The market has now fully fallen into a liquidity vacuum:

Market discussions have quickly shifted to an intense focus on "when will the Fed step in to rescue the market." We emphasized on Tuesday that unless there are signals such as a surge in repo market financing pressure or banks financing massively through Fannie Mae (similar to the situation during the banking crisis a few years ago), the current turmoil remains a matter of market sentiment and confidence—only when these thresholds are reached will the Fed's "emergency rate cut" likely be put on the agenda.

However, we are now truly feeling that the next shoe may be about to drop. Recall that the core goal of quantitative easing in 2020 was to maintain market liquidity and functionality. If we see another gap-like fluctuation like Tuesday's on Wednesday, measures such as activating the Standing Repo Facility (SRF) and ending quantitative tightening (QT) may quickly be put on the table. I even mentioned "Operation Twist" today... This is the situation we are currently in. But it needs to be clear that the financing market has not yet reached a critical point.

It is worth noting that according to the suggestions proposed by four scholars, including Anil Kashyap of the University of Chicago and former Fed governor Jeremy Stein, in a report at the Brookings Institution last month, the Fed should adopt "hedge-style bond purchases" to address the US Treasury basis trade blow-up, that is, to hedge by purchasing Treasury bonds while selling an equivalent amount of Treasury futures contracts.

Currently, although the scale is as large as a trillion dollars, the main positions of the US Treasury basis trade are actually concentrated in the hands of fewer than 10 hedge funds, represented by Millennium, Citadel, Balyasny, Point72, ExodusPoint, and Lighthouse. The industry estimates that their average leverage ratio is 20 times. This also means that as long as the related basis trade losses reach 5%, they may be completely wiped out and have to post additional margin.

US Treasuries Crash, Market in Peril: Is the US Financial System Facing a 'Make-or-Break Moment'?

Note: The upper chart compares the asset sizes of the six major hedge funds in the previous year and the year before, while the lower chart compares the leverage ratios.

In the past few years, the most severe loss in related trades was in March 2020 at the beginning of the pandemic. At that time, foreign central banks and bond funds facing redemption waves ignited a "cash grab," forcing the sale of the most liquid asset—US Treasuries. This, in turn, severely hit hedge funds that had established large leveraged basis trades, almost turning the chaotic Treasury sell-off into a disastrous financial crisis. In the end, it was the Fed's "massive liquidity injection" of expanding its balance sheet by $1.6 trillion in a single month that managed to quell the disaster.

US Treasuries Crash, Market in Peril: Is the US Financial System Facing a 'Make-or-Break Moment'?

Note: The chart on the right shows the drawdown rate during the bond market sell-off in March 2020.

Of course, one thing that is currently troubling the market is whether there are other forces selling in addition to the basis trade blow-up. An increasing number of investment banks are suspecting that Trump's retrogressive actions on tariffs may trigger more overseas US bondholders to sell US Treasuries.

On Tuesday, Steve Sosnick, chief strategist at Interactive Brokers, said, "Due to tariff frictions with China, they may stop buying and resist US bonds. Japan has the largest US Treasury holdings, but China is also the second-largest foreign holder of US debt. What would happen if this foreign demand source shrinks or dries up completely?"

Sosnick said that in this case, the US Treasury would have to issue bonds at higher interest rates to make up for the loss: "The supply won't go down soon, right? But you have to do something about the demand."

Currently, Japan, the largest "foreign creditor" of the US, has stated that it is not behind the recent US Treasury sell-off—Japan's Finance Minister Katsunobu Kato excluded on Wednesday the possibility of using Japan's holdings of US Treasuries as a bargaining chip against Trump's tariffs on Japanese imports.