Ackman’s treasury short cover puts massive basis trades on alert
This article was written by Bloomberg Data Analysts Yasumasa Nakagomi and Umer Sadiq. It appeared first on the Bloomberg Terminal.
Background
Billionaire investor Bill Ackman’s tweet that he covered his short bet against Treasuries is a cautionary reminder of risks involved in the return of a popular strategy that blew up the Treasury market in 2020.
Ackman, the Pershing Square Capital Management founder, said in a post on October 23 “there is too much risk in the world to remain short bonds at current long-term rates.” Bill Gross, co-founder of Pacific Investment Management Co., wrote the same day that he’s buying short-dated interest-rate futures in anticipation of a recession by year-end. The 10-year Treasury yield closed at 4.85%, after reaching 5.02%.
The issue
Hedge fund short positions in Treasury futures have hit record as part of the so-called basis trade, in which they sell futures contracts and buy Treasuries with funding from the repurchase agreement market. Tightening liquidity and higher funding costs raise the risk of a rapid unwind of these positions as they turn increasingly unprofitable. That comes as three-month implied volatility for Treasuries climbs to post-Covid highs.
Tracking
To see the profit and loss structure of the basis trade:
- Type “treasury futures” in the command line and select USZ3 Comdty – US Treasury Bond Futures Dec23. Type “cheapest to deliver” and select HCTD. The shortcut is USZ3 Comdty HCTD <GO>.
- Click the gray Graph tab.
Tick G. Basis (32nds) and untick Implied Repo.
The gross basis in green, calculated as the cash price of the cheapest to deliver Treasury less the futures price, has moved above zero since mid-September, indicating this popular basis trade is no longer profitable. Click the Spot radio button then Net and tick Actual Repo to see the gradual increase in actual repo rate from mid-March.
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