Foreign Buyers Are Backing Treasury Bonds. It Comes With Strings Attached.

(Illustration. by Mark Pernice)

With hedge funds and other investors becoming more dominant, this haven might not be quite as safe as it used to be.

Big private foreign investors are now among the largest purchasers of America’s debt—and their cash threatens to make the Treasury market less safe.

The U.S. debt market is the biggest in the world and it sees all sorts of buyers: central bankers, pensioners, mortgage and insurance companies, commercial banks, and more. Not all are equal. Central banks invest cautiously and gradually, prioritizing inflation and currency stability over chasing returns. Individuals and big money investment funds, however, won’t touch assets without the right premium for the perceived risks. If factors like inflation or supply become concerning, those investors head for the door fast.

Central banks and other government institutions used to dominate the foreign market for Treasuries, but no longer. Since 2021, Treasury holdings of private foreign investors have increased by $2.3 trillion, Treasury International Capital, or TIC, data show, while holdings of foreign governmental bodies, including central banks, have fallen by $301 billion over the same period. With U.S. Treasuries outstanding having grown at an annual rate of 8.5%, or $1.58 trillion, over the past 10 years, private buyers are now in control of the market. Treasuries are already more volatile—and less safe—than they used to be, and the shift is likely to push yields higher, and prices lower, as a result.

“Private buyers are looking at this very much as an investment, and they want a good return on that investment,” says Phillip Wool, chief research officer and portfolio manager at Rayliant Global Advisors. “They’re not going to do it until the yield is agreeable to them.”

Global central banks were once the dominant force in the Treasury market, as they put their dollar reserves into U.S. debt. The dollar’s role, however, has become less central to the global economy, and central banks have effectively stopped adding to their foreign exchange reserves over the past 11 years. The dollar’s share of those reserves, while still dominant, has shrunk to 58% from two-thirds a decade ago. While reserve managers haven’t disclosed the logic behind the shift, it’s likely due to a combination of reasons, including China’s rising importance in global trade, the decision to freeze Russian assets, and concerns about U.S. financial stability.

“Investors are trying to digest a number of these big shifts,” says Ramu Thiagarajan, executive vice president at State Street. “So investors’ first reaction from a financial economics perspective is ‘Fine, if all of this is changing, pay me more, and I can absorb it.’”

And they are getting paid more. State Street research shows that an increase in private buyers—domestic and international—can eventually raise the 10-year yield by a full percentage point, with other conditions remaining the same. Papers from prior years by Norges Bank Investment Management and Bank for International Settlements have reached similar conclusions regarding the upward shift in yields.

More private investors also means more volatility. Hedge funds, for example, use highly leveraged trades with names like basis swaps and swap spreads to make big money from small price misalignments. These trades involve buying and selling related positions at the same time to exploit small differences in price between two related financial instruments—and they are often large and fast.

That volatility isn’t immediately apparent in the data. This summer, the MOVE Index, which measures implied volatility in Treasuries over the next month, has been sitting at a 3½-year low while Tradeweb’s proprietary data show that the bid/ask spreads—Wall Street’s term for gap in prices quoted to immediately buy and sell—are also tight. However, the real risk isn’t on the typical day—the median change in yields might remain at historical levels, says Citi’s rate strategist Raghav Datla—but they could be larger in response to market shocks.

That was the case during the Covid-19 market panic in March 2020, according to a Fed research paper, when these trading strategies exacerbated the selloff. More recently, the bond market had one of the quickest selloffs in history in April following Trump’s tariff announcement, also likely due to the presence of these strategies.

European investors have become some of the biggest players in the Treasury market. The U.K. purchased a net $36 billion in July and $176 billion over the last 12 months through July, the latest month for available data. U.K. hedge fund Brevan Howard’s flagship Master Fund, which oversees nearly $12 billion in net assets, revealed a position of nearly $10 billion in U.S. Treasuries in its annual report for 2024, up from about $3.2 billion at the end of 2017, a position paid off handily during that tumultuous April, when the fund gained almost 4.5% benefiting from market volatility, according to Financial News, though the fund is down 1.4% for the year through August.

Private buyers are becoming “more and more concentrated among European investors,” says Wool. “Demand is even less diversified, which just exacerbates the risk of bigger price shocks when we see changes in the macro fundamentals.”

Competition will also play a big part of the market. Higher yields aren’t just a U.S. phenomenon. While the yield on the 30-year Treasury has risen to nearly 5%, from the under 1% seen in 2020, U.K. 30-year gilts now yield 5.49%, near the highest levels since at least 2006. Germany’s 30-year bunds yield 3.34%, the Netherlands 30-year bonds yield 3.48%, French 30-year bonds yield 4.42%, and Japan’s 30-year bonds yield 3.17%. All are near multiyear highs.

With so many countries seeking financing, the U.S. has “got to find people to buy the debt and it’s got to be at a rate that’s attractive enough after hedging, ” said John Luke Tyner, Head of Fixed Income at Aptus Capital Advisors.

Higher yields, if sustained, could make the record levels of interest the U.S. pays on its debt even more onerous, and create the perception that the country won’t be able to pay back its debt—which can lead to even higher yields. That’s bad news for the U.S., which has already paid $933 billion in interest since October 2024—a bigger expenditure than any other part of the government except for Medicare and Social Security. It also hurts investors who buy at lower yields.

As the buyer base for Treasuries shifts, it could mean a rocky road for a market once known as a haven.

Write to Karishma Vanjani at karishma.vanjani@dowjones.com.