hoards include more Swiss francs and Canadian dollars these days, in addition to their stash of euros, yen and pounds. Foreign central banks have also become more hesitant to invest in Treasuries after witnessing the freezing of the Russian central bank’s foreign assets in the wake of Russia’s invasion of Ukraine. “It’s a Rubicon that’s been crossed,” says a member of the Treasury Borrowing Advisory Committee, a private-sector panel that advises the Treasury. “They’re afraid of the US government effectively confiscating their assets.” In a survey last year by UBS, a Swiss bank, 49% of reserve managers expressed concern about the weaponisation of foreign-currency reserves, up from 14% in 2023. That fear has driven some central banks to hold more reserves in gold instead. Since 2022 they have bought about 1,000 metric tonnes a year, on average, twice their purchases over the previous decade. Russia’s and Turkey’s central banks have been selling gold to weather the financial turmoil from the war in Iran. The biggest reason for the fall in central banks’ share of Treasuries, however, has been the enormous expansion in the Treasury market. Over the past decade the world’s stock of foreign-exchange reserves has grown by a little more than $2trn; America’s federal debt has grown by $17trn. Even if every penny of new reserves had been held in dollars, America would still have needed to find lots of new customers for its debt.

Since 2023 foreign commercial investors have had bigger holdings of Treasuries than have foreign governments. They now own a little more than $5trn-worth, or about 17% of the market (see chart). Last year alone they added $545bn to their stash. But private investors, naturally, are far more interested in returns than governments, and so make far more capricious investors. For most of the past 15 years, yields on Treasuries have been higher than on their equivalents in Britain, continental Europe and Japan, which generated prodigious appetite for American debt. That is no longer quite so true. Rising long-term yields have made government bonds elsewhere in the world an increasingly competitive alternative. Some private investors are already cutting their holdings of Treasuries. Alecta, a Swedish pension fund with more than $180bn in assets, began selling its Treasuries in waves at the beginning of 2025, citing America’s swelling national debt. Denmark’s AkademikerPension announced a similar decision to sell its modest holdings earlier this year. Degroof Petercam Asset Management, a Belgian firm, has also sold its holdings, citing vague concerns about valuation.

Japan’s life-insurance firms provide an example of how quickly investors can lose a ravenous appetite for bonds. Between 2010 and 2019 they bought over 29trn yen ($280bn by exchange rates during that period) in foreign bonds (mostly American corporate and government debt). But since 2020 they have sold a net 20trn yen, with particularly large sales in 2022, when the Federal Reserve’s rapid series of rises in interest rates drove up the cost of currency hedging for Japanese investors. For the insurers, whose liabilities are all in yen, owning American bonds no longer made sense. There are other reasons to believe that broader demand for Treasuries from the private sector abroad may be ebbing, especially where the longest-dated debt is concerned. “Arguably, ageing populations and declining fertility rates reduce the need for life-insurance products,” notes Thomas Mathews of Capital Economics, a consultancy. Demand for life insurance tends to come from people of working age with dependent children. More old people and fewer children may, therefore, presage lower demand. The shift among foreign buyers of Treasuries from unexacting central banks to commercial investors focused on returns suggests that demand for American debt will become more sensitive to price. To continue to attract buyers, yields will have to be higher than in the past, driving up the bill for American taxpayers. ■ This article was downloaded by zlibrary from https://www.economist.com//special-report/2026/06/01/foreign-demand-for-american- government-debt-is-becoming-much-less-reliable

Like it or not, hedge funds are a permanent part of the Treasury market As interest from other buyers dwindles, the trade in Treasuries increasingly relies on risky investors June 4th 2026 THE SCALE of the Treasury market is mind-boggling. Some $1trn in securities change hands each day. Trillions more are used as collateral for short-term loans. Financial institutions of all stripes are involved: banks, central banks, high-speed traders, insurers, endowments, pension funds, hedge funds and so on. It used to be that banks were the main facilitators of all this, acting as “market-makers” for other financial firms. As recently as 2009 about half of Treasuries with maturities of a year or more were bought at auction by the brokerage arms of investment banks, which then sold them on. But new regulations introduced after the financial crisis diminished banks’ role as intermediaries in the Treasury market, by requiring them to fund themselves

with more capital to underpin such mundane transactions. Dealer banks now buy just 12% of Treasuries maturing in over a year at auction. Another prolific buyer has helped to fill the void: hedge funds. These try to profit from Treasuries in lots of ways, but one approach, called relative value, causes particular consternation. This involves exploiting tiny discrepancies in the prices of similar assets which will converge over time. Because the differences in price are minuscule, so are the profits. To make such trades worthwhile, hedge funds pursue them at huge scale using borrowed cash. To that end, they hold $2.4trn of long exposure to Treasuries —bets that the bonds will rise in value—in the form of the securities themselves and derivatives (see chart). The most common relative-value strategy is called the basis trade. It seeks to profit from piddling differences in price between Treasury futures (a contract to buy or sell a Treasury bond on a fixed date) and the underlying Treasury bonds themselves. Treasury futures are in huge demand from asset managers, because owning them involves less red tape than buying the bonds. That means that a given Treasury bond often trades at a fractionally lower price than the like futures contract. Citadel, ExodusPoint and other hedge funds sell futures contracts, use the proceeds to buy the relevant

Treasury bonds for fractionally less, and then pocket the difference when the contract matures. That the two assets will converge in price as they mature is a certainty, so the trade itself entails no risk. But to make it worth their while, the firms amplify their investment by borrowing heavily, which creates big risks. They typically pledge Treasuries as collateral. If the price of Treasuries falls, lenders may demand more protection. And if it falls far enough, borrowers can be forced to liquidate assets to repay their loans. This dynamic can exacerbate the severity of swings in the Treasury market. During the dash for cash, hedge funds sold an estimated $172bn of Treasuries, contributing to the market’s seizure. Since then, volumes of Treasuries borrowed for the basis trade have risen by 160%. Should another crisis arise, the basis trade will make it only worse. Some regulators worry about the growing weight of hedge funds in the Treasury market. In 2023 Gary Gensler, then chairman of the Securities and Exchange Commission (SEC), one of several regulators with responsibility for the Treasury market, suggested that hedge funds should be regulated like the trading arms of banks. That drew howls of opposition from the likes of Ken Griffin, the founder and CEO of Citadel. “The mirage is that it’s the safest, deepest, most liquid market in the world,” says Anil Kashyap, a professor at the University of Chicago and a former member of the Bank of England’s financial-policy committee. “The reality on the ground is that the market now depends on people who are very highly levered being the marginal buyer of Treasuries.” Exactly how much leverage is involved in relative-value trades is disconcertingly uncertain. The Office of Financial Research, an arm of the Treasury Department, collates information about borrowing from hedge funds’ corporate filings. It finds that, for every $26 hedge funds invest in relative-value trades, $25 are borrowed. Relative-value trades involving Treasuries, which are relatively easy to borrow against, are likely to be even more heavily leveraged.

Some analysts worry that leverage could be higher still for certain investors. To win valued business from hedge funds, banks sometimes lend them more than their collateral is worth, a practice known as a “negative haircut”. If a bank extends $110 of credit against a Treasury worth $100, that leaves no buffer if the bond falls in value. “If you’re picking up pennies in front of a steamroller, those pennies grow pretty nicely with leverage, but you still have that steamroller risk,” says Jonathan Wallen of Harvard Business School. Hedge funds argue that all this borrowing is not as risky as it sounds. Firms may have investments that offset the risk of a sudden adverse lurch in the Treasury market. During the dash for cash, for instance, many held options that surged in value as markets tumbled. Others keep lots of cash to hand in case they suddenly need to post more collateral. Sometimes, borrowing appears to be high on one side of the trade, but is markedly lower when the other side is considered too: a tiny or negative haircut on Treasury bonds may be combined with a more meaningful margin on the futures portion of the trade. Since the two trades usually offset one another, basis traders suggest the practice is safer than it seems. Still, according to a Fed report on financial stability last year, few of the banks lending to hedge funds actually engage in this kind of protection from blow- ups. What is more, hedge funds were by no means the only sellers during the dash for cash. There were those supposedly reliable central bankers, who sold Treasuries to try to prop up the value of their currencies. And dull-as- ditchwater open-ended mutual funds sold an estimated $266bn of Treasuries in that quarter, considerably more than hedge funds. In addition, hedge funds are performing a service when they pile into the basis trade, by ironing out a kink in financial markets. The voracious appetite of ordinary asset managers for Treasury futures would otherwise create a much bigger distortion. Arbitrage of this sort does not just make hedge-fund managers rich, the rich hedge-fund managers like to point out, it also makes markets more efficient.