There is a certain kind of bond investor you want holding your government’s debt in a crisis, and it is a pension fund. A pension fund buys a 30-year gilt because it will need to pay a retiree in 30 years, and in between it does essentially nothing. Yields spike, the bond is suddenly worth less on paper, and the pension fund shrugs, because its liabilities got cheaper on the same paper at the same time. Boring is the point. Boring is stabilizing. Boring does not get margin-called.
The problem, as Sarah Breeden laid it out this week, is that the pension funds are increasingly not the ones holding the bonds. Breeden, the Bank of England’s deputy governor for financial stability and a member of its rate-setting Monetary Policy Committee, told CNBC on Thursday that the shifting mix of who owns government debt — and how much leverage they use — means the chance of local trouble becoming global trouble is “greater than what it was.”
“One of the things that has become increasingly apparent over the last several years is that the investors in our core government bond markets globally have changed,” she said in the interview, conducted on the sidelines of the IMF-World Bank annual meetings in Bangkok. “It’s not the real money investors, the insurance companies and pension funds, in the way it used to be. It’s increasingly hedge funds, and those hedge funds are price-sensitive, leveraged, international. That, of course, means that the likelihood of a shock in one market transmitting to another is greater than what it was.”
Let’s unpack the mechanism a bit, because it’s neat and a little alarming. The International Monetary Fund, in its Global Financial Stability Report published Tuesday, put hedge funds’ gross assets at roughly $13 trillion and generously credited them with supporting market liquidity and efficiency. Always good when the IMF pauses to say something nice before the “but.” The “but” is that hedge funds use leverage to juice returns, love a crowded trade, and can turbo-charge stress when things go wrong — stress that can then leak into the broader system, including via banks’ prime brokerage arms.
Consider the basis trade, the strategy now drawing the most scrutiny. A hedge fund buys cash Treasurys and simultaneously shorts the corresponding futures, aiming to collect the small gap between the two prices. Small is the operative word: the spread is a sliver. To make a sliver worth flying in for, you borrow enormous amounts of money against the position, so that a tiny price discrepancy becomes a decent return on capital. And this all works beautifully, right up until it doesn’t — until volatility spikes, financing costs move, and everyone running the same leveraged trade tries to unwind it through the same exit at the same time. U.S. Office of Financial Research data published on Aug. 19 showed hedge funds holding a record 7% of the $30 trillion Treasury market at the end of 2025. That’s $2.1 trillion of the world’s most important asset in the hands of the price-sensitive, leveraged and international.
Which brings us to why this is a live topic and not an academic one. Hedge funds’ footprint in government bonds has come under sharper scrutiny following this year’s sharp sovereign sell-off. Earlier this month, 10-year and 30-year Treasury yields hit their highest levels since 2002. Ten-year U.K. gilt yields touched multi-decade highs. And French OAT yields have climbed sharply in recent weeks as investors fret about France’s fiscal trajectory, reviving talk of a euro-zone sovereign debt scare. “The source of the shocks are bond markets,” Breeden said, “and the likelihood of a spillover is higher than it was.”
There’s an old joke, roughly, that in a crisis all correlations go to one. The updated version for the hedge-fund era is that you don’t even need the correlations to move — you just need the same leveraged fund, financed by the same prime brokers, holding Treasurys, gilts and OATs in one book. A French fiscal wobble is no longer a French problem; it’s a margin call that gets paid by selling whatever can be sold, which is to say American and British bonds too. The plumbing has done the globalizing for you.
None of this makes hedge funds the villains of the story, exactly. They show up where there’s money to be made from mispricing, and they provide liquidity on the good days that the pension funds can’t be bothered to. The IMF said as much. It’s just that the liquidity they provide is what you might call conditional: plentiful when spreads are boring, noticeably absent precisely when everyone would quite like some. The Bank of England’s deputy governor saying the transmission risk is “greater than what it was” is, in central-banker, about as close to hanging a warning sign over the door as you get.