Treasury Trading Impeded By Market Stress

The difficulty of making a deal is as high as it was at the beginning of Covid's development

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After a week of concerns about the health of global banks, Wednesday is showing immense strain on the markets for the world's safest and most liquid assets, U.S. and other countries government bonds. 

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A key indicator of liquidity is the ability to trade quickly at quoted prices. This has been particularly evident in the U.S. Government bonds as well as the German bunds, traders reported. Traders and firms are now experiencing difficulties in other markets, such as options, futures, and swap markets, where they use derivatives to lock in prices and hedge risks. 

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As a measure of volatility in the bond market, the ICE BofA Move Index spiked to levels not experienced for at least three years.

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Treasury liquidity concerns have been persistent since the 2008-09 financial crisis, owing to changes in market rules and a diminished role for large banks in many fields. The action Wednesday, however, was as strained as in recent years, according to several traders and investors. 

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Trade Algo analysts said that a trade that should have taken seconds took minutes.

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There has been a massive influx of funds into and out of Treasurys and bunds, which have driven the disruption. In a bid to prevent inflation, the Federal Reserve and other global central banks have raised interest rates sharply in an attempt to increase demand for these so-called haven assets. However, prices for safe bonds have lagged for most of the past year due to the Fed's and other global central banks' actions to ward off inflation.

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Over the past week, bonds rallied strongly after a year of heavy selling as the federal government took control of two troubled banks, making history's second-and third-largest bank failures, and Swiss bank Credit Suisse Group AG came under attack on Wednesday as well. Traders say repeatedly reversing flows has added stress to the market.

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An analyst with Trade Algo said that Treasury traders can't have a conversation without talking about Treasury liquidity.  As a result, movements are amplified. Overshoots are going to occur in both directions.

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In Wednesday's market, the 10-year yield on the Treasury fell to 3.41%, while the German bund fell to 2.14%. More than 1% was lost on global stock markets.

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During the Black Monday market crash in 1987, the 10-year Treasury yield dropped to 4.028% on Monday. In the bond market, this week has seen a record inversion of the yield curve, a classic recession indicator.

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Data from Quantitative Brokers shows that liquidity in the 10-year Treasury futures market has declined significantly since the Silicon Valley Bank collapse. An assessment of the ability to move quickly in and out of markets was made based on the average prices at which traders offer to buy and sell contracts.

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During the pandemic market crash in March 2020, analysts at JPMorgan Chase found that Treasury market liquidity had fallen to its lowest level since March 2020. “As was the case three years ago, the Treasury market functions severely impaired,” the firm's analysts wrote.