Overseas Funds Accelerating Withdrawal, U.S. Treasuries Face Largest Selling Pressure in Six Years

Author: Bu Shuqing

Source: Wall Street Insights

The U.S. debt market is facing potential selling pressure from overseas official investors, which has raised high alert in the market.

According to ChaseWind Trading, a research report released by Deutsche Bank on March 23 shows that foreign official accounts held at the New York Fed have sharply decreased by $75 billion over the past four weeks, marking the largest single-month decline since the COVID-19 pandemic in 2020. Based on historical data modeling, this change indicates that the actual net selling of U.S. Treasuries by foreign official investors is about $60 billion, also the highest since the pandemic.

This data aligns with recent market trends of sharply rising U.S. Treasury yields, especially the abnormal upward movement of mid-curve (belly) yields—where foreign official holdings are concentrated. Deutsche Bank warns that if overseas demand continues to decline, the “convenience yield” advantage of U.S. Treasuries will be eroded, and long-term yields could substantially rise.

Custody Data Signals Selling

The most authoritative source tracking foreign official investors’ U.S. Treasury movements is the U.S. Treasury’s TIC (Treasury International Capital) report, but this data is significantly delayed—March data won’t be available until mid-May at the earliest.

As an alternative indicator, the weekly H.4.1 report published by the New York Fed includes a memo item recording the face value of securities held in custody by foreign official and international accounts at the Fed, with only a one-day lag. Deutsche Bank strategists Matthew Raskin, Steven Zeng, and Andrew Fu note in their report that the latest H.4.1 data shows that, on average over the past four weeks, foreign official accounts’ holdings of U.S. Treasuries have decreased by $75 billion, representing not only the largest decline since March 2020 but also the second-largest single-cycle drop in nearly a decade.

It is noteworthy that, unlike the similar situation in March 2023, the scale of FIMA repurchases did not increase simultaneously this time, indicating that this round of reduction is due to direct sales or maturities without reinvestment, rather than liquidity easing through repurchase operations with the Federal Reserve. Foreign reverse repos, foreign official deposits, and FIMA securities lending have also remained largely unchanged over the past month.

Custody Data Highly Correlated with TIC Data

To what extent can custody holdings data represent the overall change in foreign official investors’ U.S. Treasury holdings? Deutsche Bank has conducted systematic validation.

The report shows that over the past 15 years, the correlation between custody holdings changes and foreign official net purchases in TIC data is quite significant, with custody data explaining about 50% of the variation in TIC net purchases. Even when narrowing the sample to since 2019 to exclude potential changes in reserve management modes, this relationship remains robust.

Based on this historical relationship, a $75 billion decline in custody holdings corresponds to approximately $60 billion in net foreign official selling. Deutsche Bank points out that this would be the largest net sale by foreign official accounts since the COVID-19 pandemic, with the earliest comparable case dating back to December 2018.

Shift in Capital Flows Amid FX Interventions

The recent decline in U.S. Treasury custody holdings aligns closely with market dynamics observed recently by Deutsche Bank’s FX strategy team.

According to their previous reports, amid the outbreak of the Iran war and soaring oil prices, the dollar failed to strengthen as expected, partly because several Asian central banks implemented large-scale foreign exchange interventions. Meanwhile, high-frequency ETF monitoring data from the team also shows a clear slowdown in foreign investors’ purchases of dollar assets.

These two signals together point to a conclusion: foreign official investors are reducing their allocations to dollar assets, with Treasury sell-offs being a direct manifestation of this trend.

Persistent Selling Could Push Long-Term Yields Up Over 100 Basis Points

Deutsche Bank’s analysis reveals a structural concern: U.S. Treasury yields have long benefited from the “convenience yield” associated with the dollar’s reserve currency status, but this advantage is now under threat.

The report cites previous Deutsche Bank research indicating that the current 10-year U.S. Treasury yield is more than 100 basis points below the implied fair level based on the U.S. net international investment position (NIIP). Recent academic working papers also estimate that the dollar’s reserve currency status has kept U.S. long-term interest rates about 90 basis points below “normal levels.”

Deutsche Bank warns that if foreign demand continues to decline, the convenience yield will face regression pressure, and the term premium and overall yields on U.S. Treasuries could rise substantially, posing a direct impact on investors holding U.S. debt.