Hedge Funds’ Misery Exposed as Caribbean Proxies Dump Treasuries

  • Holders in the region sold a record $44 billion in April
  • Cayman Islands is third-biggest foreign owner of U.S. debt

The fallout from hedge funds’ roughest stretch since the financial crisis is seeping into the world’s investment haven.

Caribbean-domiciled investors, considered a proxy for hedge funds and other leveraged accounts, dumped Treasuries by the yacht-load in April, offloading a record $44 billion, or 12 percent of their holdings, according to a Wells Fargo Securities LLC analysis of the latest U.S. Treasury Department data.

Dumping Treasuries

The sales corresponded with the only losing month this year in the world’s biggest bond market. Amid volatility in stocks and commodities, hedge funds have struggled to stay liquid. Clients pulled a net $15 billion in the first quarter, the most since the financial crisis, according to Chicago-based Hedge Fund Research Inc. Some funds may have sold liquid assets such as Treasuries to repay customers and make margin calls, said Boris Rjavinski at Wells Fargo.

“The way these guys operate, they use liquid derivative instruments to take views on broad markets,” said Rjavinski, a rates strategist in New York. “To do that they need to put up collateral, and Treasuries are the most popular type of collateral.”

Island Clout

The Caribbean’s clout in the Treasuries market has grown in recent years, led by the Cayman Islands. An offshore tax haven with about 60,000 residents, the Caymans are now the third-biggest foreign owner of U.S. government debt, with $259 billion. Only China and Japan hold more than the British territory, where more hedge funds are domiciled than anywhere else in the world.

Investors across the Caribbean own around $375 billion of Treasuries, up about 90 percent from five years ago, while foreigners worldwide have boosted holdings around 40 percent in the same period, to $6.2 trillion.

As Treasuries sank in April amid climbing inflation expectations, selling from the Caribbean stood out. China and Japan each unloaded about $2 billion that month; the countries hold about $1.4 trillion and $1.1 trillion, respectively, including through suspected custodial accounts in Belgium.

Hedge funds -- loosely regulated investment pools that typically rely on borrowed money -- were coming off a rough first quarter in April. More funds shut than opened in the first three months of 2016, making it the second straight quarter the industry shrank, data from Hedge Fund Research show.

“This has in general been a tough year for leveraged accounts, and we think the story of Treasury sales is particularly relevant for global macro and model-driven funds,” said Rjavinski at Wells.

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