Large-scale options trading has occurred in the US Treasury market, with $14 million in premiums betting on the 10-year yield to rise above 5%.

The sell-off in US Treasuries continues to deepen, and large-scale option trades betting on further increases in yields have emerged in the market.

According to Bloomberg, a notable options trade occurred in the U.S. Treasury market on Thursday, betting that the 10-year U.S. Treasury yield would rise above 5%. The trade paid a premium of approximately $14 million, a substantial amount in the derivatives market.

As of press time, the 10-year US Treasury yield was 4.94%, once again approaching the peak level of slightly above 5% in 2023, while the 30-year US Treasury yield rose to 5.35% on Thursday, the highest since 2007.

Rising oil prices could further fuel already high inflation, and the aforementioned options trading is the latest sign that investors are stepping up their hedging efforts against bond market risks. For institutions holding long-duration bond positions, the continued rise in yields means significant capital loss pressure.

Large-scale option betting yields exceed 5%.

The structure of this options trade clearly points in one direction: the sell-off of US Treasuries is not over yet. If the 10-year US Treasury yield rises to about 5.1%, the trade will reach its break-even point; if it rises further to 5.2%, the potential profit will expand to about $15 million.

The last time the 10-year yield touched 5.2% was in 2007.

Traders indicated that prior to the exposure of this large options trade, a wave of behind-the-scenes hedging activities had already emerged in the market, further exacerbating selling pressure in the bond market. Such hedging behavior has a certain self-reinforcing property—selling triggers hedging demand, and hedging operations in turn push up yields.

Convexity hedging may become a new source of selling pressure.

Analysts point out that if the bond market decline continues, a wider range of passive selling may follow. Investors may further buy put options to protect their portfolios, and may also increase so-called "convexity hedging" operations.

Convexity hedging is typically triggered by institutions holding mortgage-backed securities.

When yields rise rapidly, leading to extended duration, these institutions are forced to sell government bonds or interest rate derivatives in the market to reallocate their exposure, creating additional selling pressure and potentially accelerating the selling near key yield levels.

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