By Davide Barbuscia
NEW YORK (Reuters) – The Trump administration’s promise to control long-term U.S. Treasury bond yields has fueled expectations in the bond market that a potential change in banking leverage requirements may be on the horizon. Some traders are speculating that regulators could soon shift their focus towards reviewing the Supplementary Leverage Ratio (SLR), a rule that mandates large U.S. banks to maintain additional capital reserves against U.S. government debt and central bank deposits.
If this policy change materializes, banks may be required to set aside less extra capital when holding safe assets like Treasuries. This adjustment could potentially drive U.S. Treasury yields lower, according to some investors and analysts, as it would give banks more flexibility to hold Treasuries and likely increase demand for them.
The anticipation follows remarks from U.S. Treasury Secretary Scott Bessent, who stated last week that the Trump administration was concentrating on managing 10-year Treasury yields, a key component of global financial markets and a benchmark for consumer borrowing costs. The White House and the Treasury Department have not yet responded to requests for comments.
Ryan O’Malley, head of portfolio management at Ducenta Squared Asset Management, noted that a potential review of the SLR could have positive implications for the Treasury market and other debt assets. This could be beneficial as banks free up their balance sheets, leading to increased demand for Treasuries and other assets, and potentially enhancing banks’ credit profiles.
The SLR was introduced as part of regulatory measures in the aftermath of the 2008 global financial crisis. However, over time, many participants in the Treasury market have viewed it as a significant impediment to banks providing liquidity to traders, particularly during periods of heightened volatility.
The Bank Policy Institute (BPI), a trade association representing large U.S. banks, highlighted in a recent report that recalibrating the ratio was essential to maintain market functionality, especially considering the likelihood of rising government debt issuance due to substantial budget deficits.
“We believe adjustments to the SLR could be implemented swiftly,” stated Francisco Covas, executive vice president and head of research at BPI, in an interview with Reuters. He further emphasized that the SLR should be a top priority for U.S. regulators, including the Federal Reserve, the Office of the Comptroller of the Currency, and the Federal Deposit Insurance Corporation.
In recent days, the spreads of swap rates over Treasury yields have widened, indicating that investors are anticipating a potential review of the rule. Interest rate swaps, which allow traders to hedge interest rate risks by exchanging floating rates for fixed rates, have seen their spreads widen following comments on the 10-year yield by Bessent and hints from Federal Reserve policymakers regarding SLR revisions.
The 10-year and 30-year swap spreads have increased by approximately five and ten basis points over the past week, reaching their widest levels since June 202
Support for reducing the supplementary leverage ratio (SLR) has been voiced as a means to enhance Treasury market liquidity. Fed Governor Michelle Bowman highlighted the importance of addressing unintended consequences of bank regulation in a recent speech. Travis Hill, acting chairman of the FDIC, also mentioned the SLR in a previous address, advocating for an overhaul of U.S. capital rules. The focus on the SLR has intensified amidst broader regulatory initiatives aimed at enhancing Treasury market liquidity.
A significant reform in this area is a rule mandated by the SEC in December 2023, which will redirect more trades through clearing houses. The implementation of this rule is scheduled to occur gradually by June 2026, although some Wall Street groups have sought an extension for compliance. Lisa Galletta, the head of U.S. prudential risk at the International Swaps and Derivatives Association (ISDA), emphasized the importance of ensuring that changes to the SLR do not hinder banks’ ability to support the U.S. Treasury market.
While ISDA has advocated for reforming the SLR, Deutsche Bank cautioned that adjustments to this ratio might only have a limited effect on reducing risk premiums demanded by investors, thus impacting yields. Additionally, lowering the resilience of the banking system through changes to the SLR could heighten the likelihood of banking stress, potentially necessitating a fiscal response, according to analysts at Deutsche Bank.
(Reporting by Davide Barbuscia; editing by Megan Davies and Nia Williams)
