Analysis-Corporate hedging to save debt costs may have worsened 10yr sell-off

By Shankar Ramakrishnan and Davide Barbuscia

(Reuters) - A sell-off in U.S. Treasury markets in recent weeks was likely made worse by corporate plans to borrow nearly $190 billion in the bond market this month, bankers and analysts said, highlighting a risk for markets that is likely to persist this year.

The spillover from the corporate to the government bond market happened as many companies bought protection against future interest rate increases, called a pre-issuance hedge, by short selling Treasuries in advance of their bond offerings, these people said.

The pressure on Treasury yields from corporate borrowing adds a new dimension to an intense market focus on the likely trajectory of bond yields this year. Rising bond yields can have a dampening effect on economic growth and spill over into other assets, such as stocks and currencies.

These hedges are essentially a bet against U.S. government bonds, or a short trade that profits if Treasury yields rise. Yields move inversely to bond prices. Corporate bonds are priced as a spread, or additional interest rate, over the yield on Treasury bonds. 

So, if yields rise by the time the company issues its bond, the hedge would pay out and offset its interest costs. The company can also lose money on the hedge if yields fall. 

Yields have been rising in the $28 trillion Treasury market since September, as the market factored in expectations of growth, inflation, the supply of bonds and the potential impact of President-elect Donald Trump’s policies. That gave them reason to expect yields would keep going up.

Amol Dhargalkar, managing partner of advisory firm Chatham Financial, said "hedging these future bond issuances was intense in the last few weeks." Typically, companies hedge close to half the size of a future bond issuance, he said. 

The first 16 days of January saw new corporate bonds worth $127 billion. Another $63 billion on average are expected to be priced over the remainder of the month, according to Informa Global Markets data.

Overall, syndicate bankers, on average, are expecting around $1.65 trillion of new investment-grade bonds in 2025, making it the second-most prolific year ever for such offerings, according to Informa Global Markets.     

Pre-issuance hedges tend to be used more frequently during periods of volatility in Treasury markets, something that many market experts expect would also be a feature this year, in part due to the uncertainty around Trump's policies.

HEDGING ACTIVITY 

Pre-issuance hedges are done as trades between companies and their banks and are typically disclosed later, making it impossible to know the extent of the activity. 

But bankers and analysts said the hedges were a noticeable factor in recent weeks. 

"Corporate deal flow remains topical as issuers continue to bring deals to market and hedging needs provide incremental activity and trading direction," BMO Capital Markets strategists wrote in a note this week. 

In a sign pre-issuance hedging activity was having an impact, the yield on the benchmark 10-year Treasury bond climbed to 4.8% on Jan. 13 from 4.38% on Dec. 17, coinciding with corporate issuance activity.

At the same time, net short positions of dealers on 10-year Treasury futures increased over the past few weeks, hitting a record high in the week ending on Jan. 7, data from the Commodity Futures Trading Commission shows.    

The influence of the hedging activity was also magnified as the Treasury competed for investor dollars, some of the market experts said. 

In the first eight days of 2025, U.S. Treasury sold 3-year, 10-year and 30-year bonds in back-to-back auctions to raise over $100 billion, at the same time as companies offered some $79 billion in investment-grade bonds.

"The Treasury bond markets were primed up for a sell off," said Guneet Dhingra, head of U.S. rates strategy at BNP Paribas.

(Reporting by Shankar Ramakrishnan and Davide Barbuscia; Editing by Paritosh Bansal and Anna Driver)