Treasury Market Structure

Growing U.S. government debt issuance and constrained dealer balance sheet capacity arising from bank capital requirements have raised questions about the resiliency of the U.S. Treasury market. How Treasury market structure can be optimized to maintain liquidity, even during periods of stress, is the subject of significant study and debate.

The U.S. Treasury market is a bedrock of the global financial system. Today, there are $27 trillion of Treasury securities outstanding. An average of over $879 billion are traded every day.

U.S. Treasuries are debt instruments issued by the U.S. government to finance its activities. All these Treasury securities – including Treasury bills, notes and bonds – are debt obligations issued by the U.S. Department of the Treasury and are backed by the full faith and credit of the United States government. Owing to the United States’ creditworthiness and status as the world’s leading economy, the U.S. Treasury market (comprised of the cash market as well as the repurchase agreement (“repo”) and futures markets) is the largest and most liquid bond market on the planet.

Investors view Treasuries historically as risk-free or near-cash assets i.e., assets that retain their value and can be easily sold during both normal and stressed market periods. Unsurprisingly then, Treasuries have tended to be viewed as safe havens for investors during market crises.

Their stability means U.S. Treasuries underpin the strategies of many asset managers also often serve as benchmarks for other fixed-income securities and hedging positions; as a result, U.S. Treasury yields have an impact on the rates that consumers, businesses, and governments across the globe pay to borrow money. In addition, the U.S. Treasury repo market is a key transmission mechanism for U.S. monetary policy, and vital to the liquidity of the cash Treasury market.

Market Resiliency

The resiliency of the Treasury markets has been called into question by a series of market disruption events in which market price volatility increased dramatically and/or where the depth of the market (i.e., the amount of liquidity available) decreased precipitously. These include the “Flash Rally” in October 2014, stresses in the Treasury-backed repo markets in September 2019, and the “Dash-for-Cash” in March 2020.

While these events have differed in their scope and magnitude, collectively they have highlighted a variety of longer-term structural questions in the Treasury markets, particularly the growing mismatch between the volume of Treasury issuance and the capacity of the system to intermediate the trading of those instruments. This has led to calls for reforms.

Categories of Reform

Although by no means exhaustive of the ideas circulating in public debate around Treasury market reform, there are four broad categories of reform. These are:

  1. Changes to prudential banking regulation that disincentivize the holding of U.S. Treasury securities by intermediaries;
  2. Greater use of centralized clearing and “all-to-all” trading platforms;
  3. Increased public dissemination of data by market participants; and
  4. Official sector activity, including expanded access to the Federal Reserve Bank of New York’s standing repo facility (SRF and a buyback program for off-the-run securities from the U.S. Department of the Treasury).

Prudential Banking Regulation

As U.S. government debt issuance has grown, new bank capital requirements have constrained dealer balance sheet capacity and therefore their ability to intermediate in U.S. Treasury markets. Recent proposals, including elements of the Basel III Endgame, proposed trading book capital increases through the Fundamental Review of the Trading Book (FRTB), as well as the proposed global systemically important bank (GSIB) surcharge, would likely result in a further contraction of dealer balance sheet capacity. In addition to these additional capital-based capacity constraints, the proposed minimum haircut framework for securities financing transactions (SFTs) could severely disrupt the functioning of the Treasury repo market. G0 deeper.

Centralized Clearing

Today, U.S. Treasury transactions are either settled bilaterally or cleared centrally through DTCC’s Fixed Income Clearing Corporation (FICC). The U.S. Securities Exchange Commission’s (SEC) new rules, finalized in December 2023, will require most market participants to centrally clear cash and repo U.S. Treasuries, imposing significant changes to market structure. Treasury cash clearing is required to go into effect by the end of 2025, and repo clearing is required to go into effect by June 30, 2026. On behalf of our members, SIFMA has several workstreams – including market standard documentation and an operational implementation timeline – to successfully make the transition. Go deeper.

Twin Goals for Reforms

The impact of these proposals, both individually and collectively, on the Treasury markets is considerable.

The goals of any reforms in the Treasury market should be to enhance the liquidity resiliency in the market and to increase the market-making capacity of market participants in order to meet the growing demand for, and supply of, Treasury securities. These twin goals must be top-of-mind as policymakers and market participants assess the costs and benefits of any reforms.

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