The London Brief

Apollo’s Chief Economist said a build-up of leveraged hedge fund bets in the Treasury market have left investors exposed to abrupt shifts in demand. Hedge funds have $2.5 trillion of direct holdings, and $6 trillion in combined repo and prime brokerage financing. With foreign central banks reducing their holdings and bank regulatory constraints preventing direct holdings, hedge funds have filled in the gap and play a critical infrastructure role in the Treasury market. Former Treasury Secretary Henry Paulson also noted the vulnerability encouraging the Fed to have an emergency backstop plan in the event of a sudden Treasury demand collapse.

What are the scenarios that could create the tail risk? First is liquidity. But the Fed’s $40b of Reserve Management Purchases (RMPs) helped manage the Fed Funds rate. While the NY Fed sharply reduced T-bill purchases from $40 billion to $25 billion, if there is a short-term issue, the Fed can ramp up its purchases. Another could be a Treasury volatility shock. This would likely be imposed by an ‘event’. The Iran War could have potentially been this event as a prolonged oil shock could force sovereign bond selloffs throughout the world creating contagion impacts in the Treasury market. The Fed could also create a crisis by shrinking its balance sheet (the Warsh risk). However, Treasury and the Fed are aware of this risk.

At the end of the day, the federal government is not reducing its Treasury issuance, creating attractive opportunities for arbitrage funded by banks with the government’s encouragement. But it’s a bit of a shell game, and there may come a point where even hedge funds can’t raise enough capital to keep the government gravy train going.

The Rest of the World Looks for Alternatives. As the world collects dollars and grows reluctant to buy Treasuries (leaving that for U.S. banks and hedge funds), the World Bank, the EIB and KfW are emerging as alternatives to U.S. Treasuries for dollar-denominated safe havens. Investors are allocating to these SSA bonds to maintain dollar currency exposure while shedding U.S. political and fiscal risk. Spreads of these bonds have compressed to as low as 4 or 5 bps over comparable Treasuries. This isn’t a large enough market to really impact the dollar surplus, but it shows foreign demand for alternatives.

The Dollar Depends on AI. Dollar claims on the U.S. have continued to increase. In 2025, the world held more dollar exposure than in 2024. The U.S. has a current account deficit of $1 trillion, which means the U.S. needs to sell $1 trillion of financial assets to foreigners.

The bridge is AI. To give a sense of the investments, in Q1 2026 global private AI funding surged to $226b up from $83b in Q4 2025. Total AI funding was $217b last year. OpenAI accounts for $122b of this quarter’s spend, while Anthropic is $30b, or two thirds of the AI spend. The U.S. accounted for 980 AI-related deals and $206b of funding, compared to only $20b for the rest of the world. The world is holding fewer Treasury bonds but rotating into U.S. equities on the AI theme, still buying dollar assets, just different ones. The dollar is no longer anchored by foreign demand for U.S. government debt; it is anchored by confidence in a handful of AI companies. If the AI theme were disrupted foreigners would sell U.S. equities, weakening the dollar. A weaker dollar accelerates foreign selling of remaining Treasury holdings, since dollar depreciation erodes the FX-hedged return. Meanwhile, the hedge funds holding $2.5 trillion in leveraged Treasury positions, funded on short-term repo, face rising financing costs and mark-to-market losses simultaneously, triggering the forced unwinds that Apollo's Chief Economist worries about. The 2025 tariff shock previewed exactly this sequence: equities fell, and rather than the traditional flight-to-safety bid lifting Treasuries, bonds sold off alongside stocks. This breaks the foundational assumption of 60/40 portfolio construction, which depends on negative correlation between the two asset classes. That correlation has inverted because the dollar is now a risk asset, not a haven. It rises with U.S. equity confidence and falls with it. When the funding currency and the risk asset are the same thing, there is no offset. That is the architecture of the next financial crisis, and it is held together, for now, by the AI trade. Banks Forcing Price Discovery in Private Credit. JP Morgan is actively exercising rights to revalue assets. Software loans have been specifically targeted due to AI disruption risks. Some of the bank’s top executives are directly involved in tightening the terms. BDC fund managers need to offer more collateral or accept less leverage. Some are reconsidering their relationship with JP Morgan due to their demands on marking. However, as fund managers try to shift to different banks to avoid markdowns bankers are opening fewer new facilities. When loans mark down, the banks may increase interest rates due to coverage ratio triggers. Tighter bank terms mean less leverage, lower fund returns, more redemptions and more pressure on banks to tighten the terms.

What JPMorgan has effectively done is introduce mark-to-market discipline into an asset class that has thrived on the absence of it. Whether peers follow or regulatory pressure forces their hand, the era of self-certified private credit valuations is ending. Investors who bought the yield without pricing the opacity are about to find out what they really own.

GLP-1s and Computational Social Listening. University of Pennsylvania researchers published a study in Nature Health that fed over 400,000 Reddit posts about Ozempic and Mounjaro into AI models using a technique called “computational social listening”. This pulled out side-effects that clinical trials had not caught. The team used GPT and Gemini to map posts by nearly 70,000 users to standardized medical terms covering six years of discussions. Nearly half the sample reported at least one side effect with menstrual irregularities, chills, and hot flashes among the unlabelled findings. Fatigue was the second most common complaint despite not showing up in clinical trial reporting (the first was nausea, which is a labelled, well documented side effect of GLP-1s). While Reddit is not a peer-reviewed journal, thousands flagging similar symptoms is hard to dismiss. The technique merits adoption by the FDA as an independent post-market surveillance tool.

China Has Improved Its Public Relations in the U.S. by Doing Nothing. Pew Polling said the number of people in the United States who hold a favourable view of China has doubled since 2023 to about 27%. The number who view China as an enemy has dropped from 42% to 28%.

End Note

This is the first time I’ve seen war by meme. My favourite was that the Strait of Hormuz should be renamed the Strait of Schrodinger because it can be open and closed at the same time.

The market is priced for perfection here and made me think of the Woody Allen quote, “Confidence is what you have before you solve the problem”, but with stock market valuations driven by AI, it seems like it doesn’t matter.

Omar Sayed