The Big Idea

Now who owns Treasuries, agency, MBS and corporates

Steven Abrahams | March 14, 2025

This document is intended for institutional investors and is not subject to all of the independence and disclosure standards applicable to debt research reports prepared for retail investors. This material does not constitute research.

Foreign portfolios at the end of 2024 held material amounts of outstanding value in Treasury debt, in agency debt and MBS and in corporate and structured credit. It is too early to tell if changing US and global trade policy will change marginal foreign appetite. The Treasury market looks most leveraged to that risk, the corporate and structured credit markets least leveraged. As for agency debt and MBS, that is more leveraged to bank demand. Credit, for now, continues to have the most diversified and stable investor base.

The Treasury market

A third of the outstanding value of the Treasury market at the end of 2024 sat in foreign hands, making it the sector of US fixed income most sensitive to foreign flows (Exhibit 1). Value in foreign hands declined quarter-over-quarter by 2.1%, well above the 0.6% decline in aggregate outstanding value. Changes in value in the Fed report reflect both changes in outstanding par amounts and in market value. As a result, differences between sector and aggregate could reflect differences in par value flows, differences in duration and market value or both. Outstanding marketable Treasury debt grew in the last quarter of the year, but rising interest rates reduced market value.

Exhibit 1: Foreign investors dominate holdings of US Treasury debt

Note: Data shows market value of holdings, which can reflect both changes in par value held and changes in market value of holdings.
Source: Federal Reserve Z.1 as of March 13, 2025, Santander US Capital Markets.

The Fed snapshot came before the latest rounds of US tariffs and tariff threats. Although trade policy almost certainly will affect trade flows, it is not clear that it will affect the size of foreign currency reserves, in either government or private hands. A large part of trade, even trade that does not include the US, gets transacted in US dollars. That creates stable demand for US dollar reserves, which often get invested in Treasury debt. Unless aggregate global trade drops significantly, that demand should continue, and, with it, foreign demand for US Treasury debt. Nevertheless, changing global trade policy creates risk here.

Federal Reserve holdings stood at less than 15% at the end of last year and dropped quarter-over-quarter by 5.6%, also well above the 0.6% decline in the aggregate. Fed holding should keep dropping while QT continues. The Fed has noted that it may pause QT if a US debt ceiling showdown, now likely sometime this summer, creates a squeeze on financial market liquidity.

Money market funds held just under 12% of Treasury market value but added to holdings quarter-over-quarter by 12.6%. Since Treasury holdings at money market funds involve Treasury bills almost exclusively, the increase almost entirely reflects net new par amounts. And the added par reflects torrid flows into money market funds that continue, with fund AUM rising recently to a record of more than $7 trillion. Money fund demand should continue as long as overnight rates remain above 2-year notes and longer maturities.

The only other notable result in the Treasury market was the 21.6% rate of increase in holdings at primary dealers, although holdings only finished at 1.6% of the total. Street balance sheets have ballooned in the last six months, with most of that coming from rising Treasury holdings. Among other things, that has increased demand for repo funding, the main way the Street finances positions.

The agency debt and MBS market

The Fed only reports agency debt and MBS together, but that market at the end of last year remained dominated by banks and other depositories. They held 24% of outstanding value, a share that had declined 3.4% quarter-over-quarter. That pace of decline exceeded the 1.4% quarterly decline in total agency market value. The Fed’s H.8 report, which shows agency MBS separately, showed MBS holdings at roughly flat through the fourth quarter. Banks seem to be essentially treading water in their agency debt and MBS holdings, although anecdotally reinvesting principal in agency CMO floaters and other instruments either with short duration or easily hedged to short duration. The holdings may be steady, but the risk profile is changing. Demand for agency debt and MBS is leveraged to demand from banks.

Exhibit 2: Banks and other depositories dominate agency debt and MBS

The Federal Reserve held nearly 17% of outstanding agency market value, which declined 4.4% in the fourth quarter. That balance should keep dropping through QT and beyond, since the Fed has repeatedly noted its preference for holding Treasury debt over MBS. Perhaps only a financial market crisis that would trigger new QE might turn that around.

Other notables in the numbers include money market funds, where the value of holdings rose 11.7% in the quarter. That is almost certainly Federal Home Loan Bank discount notes and other instruments that 2a-7 funds can own. The value of mutual fund holdings increased 0.3%, which likely reflected strong inflows to fixed income mutual funds through the fall; those strong inflows continue. And the value of primary dealer holdings dropped 17.6%, suggesting dealers cut inventory of agency debt and MBS.

The corporate and structured credit markets

Foreign investors make the corporate and structured credit markets the sector of fixed income second most sensitive to foreign flows, holding nearly 29% of outstanding market value at the end of the year. That balance declined 2.9% through the final quarter, only slightly more than the 2.7% decline in aggregate credit market value. Although foreign holdings of Treasury debt likely are dominated by the needs of portfolios managing currency reserves, foreign holdings of credit likely reflect more asset-liability management. Taiwan insurers, for example, are well known holders of US corporate credit. Banks in China may hold short US corporate debt against US dollar deposits. Insurers are likely less sensitive to trade flows than banks, where deposits may reflect local corporate dollar reserves. There is some sensitivity here to trade policy, but less than the Treasury market.

Exhibit 3: Private portfolios—foreign, insurers, mutual funds—dominate credit

US life insurers ended 2024 holding nearly 23% of credit market value, down 3.6% for the quarter. As the flow of life insurance premiums go, so goes demand for corporate and structured credit. US life insurers continued heavy issuance of annuities, which has helped fund insurer demand for most of the last two years. Annuity flows should remain robust, although slower than 2024, keeping life insurer demand healthy. Aggregate premiums should depend on economic growth, so that’s the thing to watch this year.

Mutual funds held nearly 16% of credit value and declined 1.3% in the quarter, and ETFs held nearly 7% of market value and rose 2.1%. Heavy flows into these total return vehicles helped lift credit along with MBS, and flows into ETFs are notable. Flows into CLO ETFs have set records in the last year, with CLO ETF balances now approaching $30 billion.

In general, demand in the credit market is the least exposed to changing trade policy. Most of the asset is in private hands managing asset-liability risk or working for total return. That should make demand for credit more robust than the Treasury market, and less leveraged to bank demand than agency debt and MBS.

* * *

The view in rates

The market continues to price in three cuts this year, one more than the Fed’s December dots. But the significant jump in consumer inflation expectations in January should give the Fed pause. Consumer expectations for price increases in the next five to 10 years hit 3.5% in January, the highest since April 1995. The Fed likes to keep inflation expectations anchored around 2%, and, although only one report, the January numbers may ring alarms. The Fed comes out with new dots at its March 19 meeting.

Other key market levels:

Fed RRP balances closed at $126 billion as of Friday, down $10 billion in the last week. This is still above the $59 billion low point on February 14. Limits on repo balance sheets at banks likely pushed a lot of the repo market toward the RRP at the end of March. But with RRP at 4.25%, Treasury repo at 4.34% and MBS repo at 4.36%, cash has better alternatives than RRP. It’s surprising that RRP balances have not declined further.
Setting on 3-month term SOFR closed Friday at 430 bp, up 1 bp on the week.
Further out the curve, the 2-year note traded Friday at 4.02%, up 2 bp in the last week. The 10-year note traded at 4.31%, up 1 bp in the last week.
The Treasury yield curve traded Friday with 2s10s at 30 bp, unchanged in the last week. The 5s30s traded Friday at 53 bp, steeper by 2 bp over the same period
Breakeven 10-year inflation traded Friday at 231 bp, down 5 bp in the last 1week. The 10-year real rate finished the week at 200 bp, up 4 bp in the last week.

The view in spreads

Bearish on credit spreads with US trade policy in flux. The Bloomberg US investment grade corporate bond index OAS traded on Friday at 93 bp, wider by 6 bp in the last week. Nominal par 30-year MBS spreads to the blend of 5- and 10-year Treasury yields traded Friday at 137 bp, wider by 2 bp in the last week. Par 30-year MBS TOAS closed Friday at 36 bp, wider by 2 bp in the last week.

The view in credit

We are starting to see cracks in credit quality at the weaker end of the distribution. Fundamentals for the average consumer and most corporate credits continue to look stable. Most investment grade corporate and most consumer balance sheets have fixed-rate funding so falling rates have limited immediate effect. Consumer debt service coverage is roughly at 2019 levels. However, serious delinquencies in FHA mortgages and in credit cards held by consumers with the lowest credit scores have been accelerating. Consumers in the lowest tier of income look vulnerable. The balance sheets of smaller companies show signs of rising leverage and lower operating margins. Leveraged loans also are showing signs of stress, with the combination of payment defaults and liability management exercises, or LMEs, often pursued instead of bankruptcy, back to 2020 post-Covid peaks. If the Fed only eases slowly this year, fewer leveraged companies will be able to outrun interest rates, and signs of stress should increase. LMEs are very opaque transactions, so a material increase could make important parts of the leveraged loan market hard to evaluate.

Steven Abrahams
steven.abrahams@santander.us
1 (646) 776-7864

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