Hedge-fund unwind widens French-German 10-year spread

Hedge funds including Taula Capital Management and Balyasny Asset Management unwinding crowded relative-value trades intensified the sell-off in French government bonds, pushing the French-German 10-year yield spread to 154 basis points on Friday after France’s fiscal watchdog criticised the government’s budget proposals, according to people familiar with the matter. Those people said leveraged investors rapidly cut exposure as losses mounted and market liquidity deteriorated.

The funds had held positions designed to profit from the gap between French government bond yields and interest-rate swaps. Those strategies produced gains earlier, but sharp rises in French yields forced rapid unwinds and increased downward pressure on prices. Traders reported heavy selling on Thursday following the watchdog’s assessment, with forced liquidations continuing into Friday.

Market participants reported a rush by leveraged investors to reduce risk as mark-to-market losses grew. Thinner liquidity made it harder to absorb large orders without moving prices sharply. Representatives for Taula and Balyasny declined to comment on positions or trading activity.

Marion Le Morhedec, chief investment officer for fixed income at Fidelity International, estimated hedge fund activity may have accounted for around half of recent moves in the French-German yield spread, citing Eurex data that showed particularly heavy trading in recent sessions.

The 154 basis-point gap is the widest between French and German 10-year yields since 2011, when the euro-area sovereign debt crisis escalated. The wider spread reflected a higher risk premium for holding French debt relative to German bunds and followed the fiscal watchdog’s critique.

Exchange trading data indicated unusually heavy activity consistent with rapid deleveraging. The trading pattern involved margin calls that forced leveraged funds to trim or close positions, which amplified selling pressure and contributed to the recent market moves.