Traders are betting on rising US Treasury yields, short positions surge and push up repo costs

Zhitong Finance APP has learned that traders are betting that U.S. Treasury yields will continue to rise, which could cause disruptions in the U.S. funding market.

One common way to bet on rising yields is to borrow a U.S. Treasury bond while simultaneously providing an overnight cash loan to the bond’s owner, thereby establishing a short position. When demand to borrow a particular note or bond increases, the interest rate on this overnight cash loan tends to decrease—in market jargon, this makes the bond “special.”

This is already evident in the repo market. According to Curvature Securities, the rate for borrowing the current 10-year U.S. Treasury note dropped intraday to as low as 2.70%, closing at 3.75%.

By contrast, the rate for so-called general collateral U.S. Treasuries—without specific issue restrictions—was reported at 3.86% intraday, closing at 3.92%. This indicates that traders are willing to pay more to borrow certain specific U.S. Treasuries compared to other collateral in the repo market.

The unusual aspect of the current “special” rate on the 10-year U.S. Treasury is that this note will be reissued for a second time next week. The outstanding amount is already quite ample, nearing $92 billion, including about $10.6 billion held by the Federal Reserve. The U.S. Treasury Department said on Thursday that it plans to issue $39 billion in 10-year Treasuries on October 7.

“There is a strong short base in the market, so it’s not surprising that there are many shorts in the 10-year note,” said Scott Skyrm, Executive Vice President at Curvature Securities. “The When-Issued (WI) announcement and this auction will bring even more shorts into this note. I expect the 10-year will remain volatile over the next two weeks.”

This bond’s increased volatility comes as U.S. Treasury yields surge: the 10-year yield briefly hit 5.28% on Thursday, the highest since 2002, before pulling back. Driving the rise in yields is the Federal Reserve’s resolve to cool inflation that has long exceeded its target, all against a backdrop of $100-per-barrel oil, an AI investment boom, and a record-high U.S. debt burden of $40 trillion.

Last month, traders paid a premium to borrow two-year and five-year U.S. Treasuries, but this pressure has subsided since the September 30 month-end settlement—according to Skyrm, current demand is focused on older issues. For example, the five-year note issued in August briefly fell to negative 1% on Wednesday and then to as low as 0.75%.