US Treasury basis trade shrinks to its smallest size in over two years

One of Wall Street’s favorite money machines is running low on fuel. The US Treasury basis trade, a leveraged strategy that has generated enormous returns for hedge funds in recent years, has contracted to its smallest size in over two years, according to Bloomberg. The numbers tell a clear story. The notional value of the trade fell from $1.26 trillion at the start of 2026 to approximately $900 billion by September of the same year, based on data from Morgan Stanley. That is a drawdown of more than $300 billion in under a year. What the basis trade actually is Think of the basis trade like arbitrage at a farmers market. If apples sell for $1 at one stall and apple futures contracts imply a price of $1.02, a savvy trader can pocket the difference by buying the physical apple and simultaneously selling the future. The Treasury basis trade works on the same principle, exploiting tiny price gaps between physical US government bonds and the futures contracts tied to them. The catch is that those gaps are genuinely tiny, measured in fractions of a percentage point. To generate meaningful returns, funds borrow heavily to amplify their positions, sometimes by a factor of dozens to one. Fi...