"Quantitative Tightening" or "Operation Twist" is coming up. What are the implications for bonds? "Quantitative Tightening" or "Operation Twist" is coming up. What are the implications for bonds? "Quantitative Tightening" or "Operation Twist" is coming up. What are the implications for bonds?

"Quantitative Tightening" or "Operation Twist" is coming up. What are the implications for bonds?

Althea Spinozzi

Head of Fixed Income Strategy

Summary:  With the end of the Bank Term Funding Program (BTFP) and the Fed RRP facility falling below $500 billion, Quantitative Tightening (QT) tapering is coming next. Policymakers could decide on it as soon as at this month's FOMC meeting. Waller's comments at the 2024 US Monetary Policy Forum in New York may provide insight into what will happen next. There are three possibilities: QT tapering, a reverse Operation Twist, or a combination of the two. Regardless of the chosen option, the yield curve will continue to steepen, benefitting short-term US Treasuries. Conversely, the long end of the yield curve will remain vulnerable to pandemic-like US Treasury issuance, the pace of disinflation, and term premium considerations.

Last week, Federal Reserve Christopher Waller's speech discussed Quantitative Tightening (QT) in the past, the present, and the future. Yet, the following remarks were particularly important for bond markets:

1. The Fed’s agency MBS holdings should go to zero

2. US Treasury holdings should shift toward a larger share of shorter-dated Treasury securities.

To understand how such comments affect US Treasury and the yield curve, it is essential to know that today, T-Bills holdings are less than 5% of US Treasury Fed holdings and less than 3% of total Fed security holdings. Before the Global Financial Crisis (GFC), they comprised a third of the Federal Reserve portfolio.

Although Waller doesn't clearly state whether he would like to go back to a composition similar to the one seen before the GFC, it’s clear that he would like to limit QT to runoffs in MBS and coupon US Treasuries and avoid any runoff in T-Bills.

The issue is that QT is running at a rate of $60 billion US Treasuries per month and $15 billion agency MBS per month. The way QT works is that coupon bonds and notes are run off before T-Bills, but when the redemption of notes and bonds does not reach $60 billion, then T-Bills will be run off up to the $60 billion cap.

According to the Federal Reserve redemption schedule, US note and bond redemptions will meet or exceed QT’s cap in only five out of twelve months. If the current pace of QT remains unchanged, T-Bills will be runoff for roughly $170 billion in a year.

In 2019, MBS securities exceeding the QT cap were reinvested in US Treasuries in the secondary markets up to $20 billion; anything above that amount was reinvested in MBS. While one might think that the central bank today could opt for the same solution, it won't be able to do so this time. For the remainder of 2024, there will be only $14 billion of MBS redemptions, resulting in an average of a little over $1 billion per month, well below the $15 billion monthly QT cap.

Therefore, for the Federal Reserve not to reduce short-term Treasury holdings further, it would need to decrease the QT cap and redirect the debt exceeding the QT cap towards short-term US Treasuries

 rather than rolling over the amount in proportion to the amount of SOMA securities scheduled to mature on those dates.

Another option would be to engage in a reverse "Operation Twist." The Federal Reserve implemented Operation Twist in the second quarter of 2012, which implies the simultaneous selling of short-term bonds to purchase long-term Treasuries.

Either way, QT tapering is indispensable and may come as soon as the next FOMC meeting on March 20th. Indeed, the Fed RRP facility has fallen below $500 billion this month for the first time since 2021, and the BTFP facility expires this month.

QT tapering or operation twist might be coming exactly as the US Treasury is increasing its T-Bill shares above the 20% guideline.

"QT tapering" and "Operation Twist Reverse": consequences on the yield curve.

The above is likely to result in a steeper yield curve. However, the big question is whether QT tapering or operation twist is going to be bullish for long-term US Treasuries, especially the ultra-long part of the yield curve, where many investors have put their money at work in the past couple of years, positioning for an early and aggressive rate cutting cycle. Even during February, when markets were pushing against expectations of more than three rate cuts in 2024, TLT (iShares 20+ Year Treasury Bond ETF) saw inflows of $776 million.

Although the announcement of QT tapering per se is dovish, as it alludes to easier upcoming monetary policies, long-term US Treasury yields will be able to decline only once the market is confident that inflation is on a sustainable path to 2%. Moreover, considering that the US Treasury is maintaining coupon issuance to pandemic-like levels in the year's second quarter, long-term yields look more likely to rise rather than fall.

Yet, the front part of the yield curve up to 7 years offers an appealing entry point, as policymakers' reluctance to tighten the economy further and reduce liquidity in the system will likely favor this part of the yield curve. We continue to remain cautious.

Source: Bloomberg.

Saxo Capital Markets (Australia) Limited prepares and distributes information/research produced within the Saxo Bank Group for informational purposes only. In addition to the disclaimer below, if any general advice is provided, such advice does not take into account your individual objectives, financial situation or needs. You should consider the appropriateness of trading any financial instrument as trading can result in losses that exceed your initial investment. Please refer to our Analysis Disclaimer, and our Financial Services Guide and Product Disclosure Statement. All legal documentation and disclaimers can be found at https://www.home.saxo/en-au/legal/.

The Saxo Bank Group entities each provide execution-only service. Access and use of Saxo News & Research and any Saxo Bank Group website are subject to (i) the Terms of Use; (ii) the full Disclaimer; and (iii) the Risk Warning in addition (where relevant) to the terms governing the use of the website of a member of the Saxo Bank Group.

Saxo News & Research is provided for informational purposes, does not contain (and should not be construed as containing) financial, investment, tax or trading advice or advice of any sort offered, recommended or endorsed by Saxo Bank Group and should not be construed as a record of our trading prices, or as an offer, incentive or solicitation for the subscription, sale or purchase in any financial instrument. No representation or warranty is given as to the accuracy or completeness of this information. All trading or investments you make must be pursuant to your own unprompted and informed self-directed decision. No Saxo Bank Group entity shall be liable for any losses that you may sustain as a result of any investment decision made in reliance on information on Saxo News & Research.

To the extent that any content is construed as investment research, such content was not intended to and has not been prepared in accordance with legal requirements designed to promote the independence of investment research and as such, would be considered as a marketing communication.

None of the information contained here constitutes an offer to purchase or sell a financial instrument, or to make any investments.Saxo Capital Markets does not take into account your personal investment objectives or financial situation and makes no representation and assumes no liability as to the accuracy or completeness of the information nor for any loss arising from any investment made in reliance of this presentation. Any opinions made are subject to change and may be personal to the author. These may not necessarily reflect the opinion of Saxo Capital Markets or its affiliates.

Please read our disclaimers:
- Full Disclaimer (https://www.home.saxo/en-au/legal/disclaimer/saxo-disclaimer)
- Analysis Disclaimer (https://www.home.saxo/en-au/legal/analysis-disclaimer/saxo-analysis-disclaimer)
- Notification on Non-Independent Investment Research (https://www.home.saxo/legal/niird/notification)

Saxo Capital Markets (Australia) Limited
Suite 1, Level 14, 9 Castlereagh St
Sydney NSW 2000

Contact Saxo

Select region


The Saxo trading platform has received numerous awards and recognition. For details of these awards and information on awards visit www.home.saxo/en-au/about-us/awards

Saxo Capital Markets (Australia) Limited ABN 32 110 128 286 AFSL 280372 (‘Saxo’ or ‘Saxo Capital Markets’) is a wholly owned subsidiary of Saxo Bank A/S, headquartered in Denmark. Please refer to our General Business Terms, Financial Services Guide, Product Disclosure Statement and Target Market Determination to consider whether acquiring or continuing to hold financial products is suitable for you, prior to opening an account and investing in a financial product.

Trading in financial instruments carries various risks, and is not suitable for all investors. Please seek expert advice, and always ensure that you fully understand these risks before trading. Saxo Capital Markets does not provide ‘personal’ financial product advice, any information available on this website is ‘general’ in nature and for informational purposes only. Saxo Capital Markets does not take into account an individual’s needs, objectives or financial situation. The Target Market Determination should assist you in determining whether any of the products or services we offer are likely to be consistent with your objectives, financial situation and needs.

Apple, iPad and iPhone are trademarks of Apple Inc., registered in the US and other countries. AppStore is a service mark of Apple Inc.

The information or the products and services referred to on this website may be accessed worldwide, however is only intended for distribution to and use by recipients located in countries where such use does not constitute a violation of applicable legislation or regulations. Products and Services offered on this website is not intended for residents of the United States and Japan.

Please click here to view our full disclaimer.