A popular trade in US Treasuries has shrunk to its smallest size in over two years, in what Wall Street strategists say reflects fewer dislocations in the bond market for hedge funds to exploit. The strategy, known as the basis trade, helps generate demand for Treasuries and provide liquidity in the $32 trillion market. It involves wagering on the small price difference between Treasury bond futures and the underlying securities, using heaps of borrowed cash to scale up the bet.

The contraction in the basis trade signals a calmer bond market with fewer arbitrage opportunities. Hedge funds have scaled back positions as dislocations that previously offered profitable spreads have largely disappeared.

The reduced activity could have implications for Treasury market liquidity, as the basis trade has been a significant source of demand and trading volume in recent years.