Board of Governors of the Federal Reserve System

Figure 1. U.S. Treasury exposures and repo exposures of QHFs

This figure contains two panels. The left panel plots the monthly long and short U.S. Treasury exposures, in billions USD, of qualifying hedge funds between January 2013 and December 2020, inclusive. Qualifying hedge funds have a net long Treasury exposure throughout. Both long and short Treasury exposure gradually increased between January 2013 and early 2018, and then increased sharply until February 2020, reaching highs of about $1,445 billion and $935 billion, respectively. Long and short exposures abruptly declined in March and April 2020 to about $1,105 billion and $690 billion, respectively, and have steadily declined through December 2020.

The right panel plots monthly repo borrowing and lending exposures, in billions USD, of qualifying hedge funds between January 2013 and December 2020. The exposures were similar in magnitude until early 2018, after which repo borrowing sharply increased through February 2020, about doubling to $1,465 billion, while repo lending stayed about the same. Repo borrowing decreased about $90 billion in March 2020 and $195 billion in April 2020.

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Figure 2. Concentration of UST and repo exposures and balance sheet leverage of top 50 UST funds

This figure contains two panels. The left panel plots the monthly percentage of the total Treasury exposure and repo activity (both gross and borrowing) managed by the top 50 qualifying hedge funds, ranked by gross Treasury exposure, between January 2013 and December 2020. The plot shows that these percentages increased notably over time, particularly since 2018, with the top 50 funds accounting for about 85 percent of the total gross Treasury exposure and about 88 percent of the repo activity of all qualifying hedge funds in December 2020.

The right panel plots the monthly mean leverage ratios of the top 50 and the remaining set of qualifying hedge funds between January 2013 and December 2020. The plot shows that the top 50 funds were significantly more leverage than the rest of the universe of qualifying hedge funds, on average, and their leverage – measured as the ratio of gross balance sheet assets over net assets – increased markedly since 2018.

Altogether, this figure shows that hedge fund Treasury and repo exposures and balance sheet leverage are concentrated in the top 50 qualifying hedge funds, and that this concentration had increased over time.

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Figure 3. Treasury arbitrage activity and gross assets allocated to relative value sovereign arbitrage strategies

This figure contains two panels. The left panel plots the monthly arbitrage and directional gross UST exposures of qualifying hedge funds between January 2013 and December 2020. The panel shows that arbitrage exposures – those that are long/short balanced – accounted for most of the increase in Treasury exposures prior to the pandemic, reaching $1,630 billion in February 2020. Non-arbitrage, directional (mostly net long) exposures also increased prior to the pandemic, standing close to $750 billion at the end of February 2020. Since then, both arbitrage and directional UST exposures declined notably, and stood close $1,125 billion and $470 billion, respectively, at the end of the December 2020.

The right panel plots the monthly gross assets allocated to relative value sovereign strategies from the pool of qualifying hedge funds between January 2013 and December 2020. The plot shows that gross assets increased notably in the years prior to the pandemic, particularly since 2018, reaching close to $900 billion at the end of 2019. Since then, gross assets declined, standing at $800 billion by the end of the sample period.

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Figure 4. Treasury futures and options exposures from CFTC and comparison to Form PF data

This figure contains two panels. The left panel plots the monthly UST futures and options notional by investor type from the CFTC’s Traders in Financial Futures between January 2013 and December 2020. Specifically, the plot shows the time series for asset managers long positions, as well as short positions for asset managers, dealers, leveraged funds, and other investors. Overall, the plot shows that asset manager long UST futures positions increased notably over the sample period, about in line with the increase in short UST futures positions experienced by leveraged fund.

The right panel plots the monthly long and short UST exposures reported in Form PF and leveraged funds’ short and long Treasury futures and options positions from the CFTC’s Traders in Financial Futures, between January 2013 and December 2020. Overall, the plot shows that between 2018 and 2020, both long and short UST exposures reported in Form PF grew notably. In addition, the growth in qualifying hedge funds’ short positions in Form PF aligns well with the increase in leveraged funds’ short Treasury futures reported by the CFTC. In contrast, the growth in long UST positions in Form PF does not correspond with the largely flat CFTC leveraged funds’ long futures positions observed during the period.

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Figure 5. Cash-futures basis trade life cycle

This figure depicts the securities flows, cash flows, and the exposures created at trade open, trade maintenance and trade close when trading a Treasury cash-futures basis trade. The figure shows that this trade involves shorting a UST futures contract and going long a UST note deliverable into that contract, with the note financed by repo. In addition, the figure highlights that, as repo financing supporting these trades is typically short-term and futures margins can change, arbitrageurs are exposed to margin risk and rollover risk inherent in maintaining the trade. At trade close, the fund closes its repo and delivers the Treasury into the futures contract.

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Figure 6. Estimated long and short Treasury holdings and derivatives positions

This figure contains two panels. The left panel plots monthly estimates of long UST holdings and long UST derivatives of qualifying hedge funds, between January 2013 and December 2020. The estimates are the results of the authors’ algorithm that decomposes reported UST exposure into securities holdings and derivatives exposure. Details of the algorithm are in the appendix. The plot shows that long UST holdings increased notably starting in 2018, reaching close to $1,100 billion in February 2020. Since then, estimated long securities holdings declined, standing at about $800 billion at the end of December 2020. In contrast, long UST derivatives rose slightly, on net, since inception in 2013, ending the period at about $175 billion.

The right panel plots the monthly estimates of short UST holdings and short UST derivatives of qualifying hedge funds, between January 2013 and December 2020. The plot shows that most of the short UST exposures are derivatives positions. Moreover, short UST derivative positions rose markedly beginning in 2018, reaching a historical high level of $755 billion in February 2020. Since then, qualifying hedge funds scaled back on their short UST derivative positions and ended the sample period at about $505 billion. In contrast, short UST holdings fluctuated within a somewhat narrow range since inception and ended the period at about $120 billion.

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Figure 7. Treasury holdings of basis traders and other hedge funds

This figure contains two panels. The left panel plots monthly estimates of long UST holdings, repo borrowing tied to UST collateral, and short UST derivatives exposures, between January 2013 and December 2020, for funds classified as likely basis traders. The right panel shows these series over the same period for other hedge funds. The UST estimates are the results of the authors’ algorithm that decomposes reported UST exposure into securities holdings and derivatives exposure. Details of the algorithm are in the appendix. The plot shows that, long UST holdings, repo borrowing tied to UST collateral, and short UST derivatives exposure are highly correlated for likely basis traders, as expected by the mechanics of the trade. Moreover, beginning in 2018, these exposures increased notably, with estimated long UST holdings reaching close to $660 billion in February 2020. Repo borrowing with UST collateral and short UST derivatives exposures experienced similar growth. Since then, all three series declined markedly, with estimated long UST holdings of likely basis traders reaching about $420 billion at the end of December 2020. In contrast, estimated long UST holdings, UST repo borrowing, and short UST derivatives exposures of other hedge funds, plotted in the right panel, show little trend and hover around $400 billion, $200 billion, and $100 billion, respectively, throughout the period.

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Figure 8. Estimated net Treasury transactions by basis traders and other hedge funds

This figure shows the estimated monthly net UST transactions of qualifying hedge funds, separately for likely basis traders and other hedge funds, between January 2018 and December 2020. The plot highlights that hedge fund net UST selling in March 2020, at $173 billion, was large relative to historical standards. Moreover, much of the selling was done by hedge funds likely trading the cash-futures basis, which sold an estimated $148 billion in Treasury securities during that month. UST selling by qualifying hedge funds continued in April, although at a somewhat slower pace.

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Figure 9. Treasury net flows by investor type in Q1 2020

This figure depicts quarterly UST net flows by investor type from the Financial Accounts of the U.S. against our estimate of qualifying hedge funds’ UST selling during the first quarter of 2020. Overall, this plot indicates that our estimate of hedge fund selling in Q1 2020, though large at $172 billion, was not outsized compared to that of other types of institutional investors. Mutual funds sold, on net, an estimated $266 billion in Treasury securities in the first quarter. Foreign investors were also among the largest sellers, with foreign official Treasury outflows reaching close to $178 billion, while foreign private holdings declined by $72 billion.5 The household sector also reported large net sales at $152 billion. Similarly, insurance companies, retirement funds, dealers, depository institutions and the state and local government sector, among others, saw net outflows of Treasury securities in the first quarter. In contrast, money market funds increased their holdings of Treasury securities, with net inflows on the order of $250 billion.

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