Treasury Market Bets on US Stimulus as Foreigners Sell $58B

Market Prices 50% Hike, But Bets on Fiscal Stimulus

Defying expectations of a flight to safety, the U.S. interest rate market has been pricing increasingly hawkish Federal Reserve policy. Last Friday, the probability of a December rate hike exceeded 50%, a stark deviation from the Fed's March dot plot and dealer surveys. However, analysis from Morgan Stanley's interest rate strategy team argues this isn't a bet on Fed tightening, but rather a calculation that the U.S. government will unleash massive fiscal stimulus to offset the economic drag from soaring oil prices.

To match the market's implied terminal Fed funds rate of 3.63%, Morgan Stanley's model had to increase the probability of a "demand upside" scenario from 10% to 41% while completely eliminating the possibility of a recession. This disconnect—with the market pricing a rate 39 basis points higher than the bank's 3.24% economic forecast—signals that traders are positioning for a powerful, government-induced demand impulse, not a traditional monetary policy response to inflation.

Foreign Powers Unload $58 Billion in US Treasuries

The market's anticipation of new debt issuance is compounded by a significant sell-off from existing holders. Data from the New York Fed reveals that foreign monetary authorities have net sold approximately $58 billion in U.S. Treasuries since the Middle East conflict began on February 25. This selling pressure adds to concerns about a growing supply of government debt.

Critically, the proceeds from these sales do not appear to be staying within the U.S. financial system's traditional safe havens. The Fed’s reverse repo facility for foreign authorities (FIMA RRP) saw inflows of only $3 billion during the same period, suggesting the capital has been moved out of the Treasury market entirely. This sell-off coincides with rising geopolitical risk for major Middle Eastern holders like Kuwait, Saudi Arabia, and the UAE, which collectively held $313.5 billion in U.S. Treasuries as of January 2026, prompting speculation they are liquidating assets to fund defense and economic support measures.

A Paradigm Shift: From Central Bank Put to Government Bailout

These dynamics signal a fundamental change in how investors view crisis response. The post-pandemic playbook has shifted from relying on central bank rate cuts to expecting direct government intervention. This erodes the traditional safe-haven appeal of U.S. Treasuries, as increased supply from both fiscal stimulus and foreign sales pushes yields higher, independent of Fed action.

American interest rate markets are focused on an activist government, not an activist central bank.

— Morgan Stanley Interest Rate Strategy Team

This new paradigm is reflected in other market signals. The spread between 30-year U.S. Treasuries and SOFR swaps has fallen by 10 basis points since February 27, a classic indicator of market fears over increased Treasury supply. As investors price in a government-led response, the role of Treasuries as a portfolio hedge diminishes, forcing a recalibration of macro trading strategies for a new era of fiscal dominance.