By Shankar Ramakrishnan and Davide Barbuscia
(Reuters) – A sell-off in U.S. Treasury markets in recent weeks was likely exacerbated by corporate plans to borrow nearly $190 billion in the bond market this month, bankers and analysts say, signaling a risk to markets that is likely to persist this month continue. year.
The spillover from the corporate bond market into the government bond market occurred when many companies bought protection against future interest rate rises, a so-called pre-issue hedge, by short selling government bonds ahead of their bond offerings, these people said.
Pressure on government bond yields from corporate borrowing adds a new dimension to the intense market focus on the likely trajectory of bond yields this year. Rising bond yields could dampen economic growth and spill over to other assets, such as stocks and currencies.
These hedges are essentially a bet against U.S. Treasury bonds, or a short trade that yields a profit when Treasury yields rise. Yields move inversely to bond prices. Corporate bonds are priced as a spread, or additional interest, over government bond yields.
So if interest rates rise by the time the company issues its bond, the hedge would pay out and offset the interest cost. The company could also lose money on the hedge if interest rates fall.
Yields in the $28 trillion Treasury market have risen since September as the market took into account growth expectations, inflation, bond supply and the potential impact of President-elect Donald Trump’s policies. That gave them reason to expect interest rates to continue rising.
Amol Dhargalkar, managing partner of consultancy Chatham Financial, said “hedging on these future bond issues has been intense in recent weeks.” Typically, companies hedge almost half the size of a future bond issue, he said.
New corporate bonds worth $127 billion were issued in the first sixteen days of January. Prices will average another $63 billion over the rest of the month, according to data from Informa Global Markets.
Overall, syndicate bankers expect an average of about $1.65 trillion of new investment-grade bonds in 2025, making this the second-most productive year on record for such offerings, according to Informa Global Markets.
Pre-issue hedges tend to be used more frequently during periods of volatility in government bond markets, something that many market experts expect will continue this year, partly due to the uncertainty surrounding Trump’s policies.
HEDGING ACTIVITY
Pre-issue hedges occur as transactions between companies and their banks and are typically disclosed later, making it impossible to know the extent of the activity.