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The NY Fed spends $53 billion to rescue the overnight lending market


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https://www.cnn.com/2019/09/17/business/overnight-lending-rate-spike-ny-fed/index.html

 

Some notable items:

 

It was the NY Fed's first such rescue operation in a decade, the last occurring in late 2008.

 

The NY Fed announced plans late Tuesday to hold another repurchase agreement operation on Wednesday that would aim to repurchase up to an additional $75 billion.

 

The rate on overnight repurchase agreements hit 5% on Monday, according to Refinitiv data. That's up from 2.29% late last week and well above the target range set in July by the Federal Reserve, which is 2% to 2.25%. The surge continued Tuesday, with the overnight rate hitting a high of 10% before the NY Fed stepped in.

 

The catalyst for the stress, according to Cabana, was the fact that US companies withdrew vast sums of money from banks to make quarterly tax payments to the US Treasury Department. That forced banks to draw down their reserves at the Fed.

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The catalyst for the stress, according to Cabana, was the fact that US companies withdrew vast sums of money from banks to make quarterly tax payments to the US Treasury Department. That forced banks to draw down their reserves at the Fed.

 

Does this explanation sound like nonsense to anyone else? I find it hard to believe that publicly-traded megacorps were so bad at estimating their tax liabilities that they collectively misjudged their liquidity needs at the same time. Even if that were the case, would it spike repo rates by 500%? It just seems laughable to say, "Things were too good - therefore repo rates surged!"

 

Could an alternative explanation be that a major counterparty - possibly Deutsche Bank - is on the verge of collapse and banks are hesitant to lend in the overnight market?

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It seems like the Market is presently asking for further easing...

What is fascinating is that we are still in the middle of the experiment and have only started the exit strategy.

https://www.federalreserve.gov/newsevents/testimony/bernanke20100210a.htm

 

Interesting to hear from someone who thought this could become problematic before it reached the surface:

https://doubleline.com/dl/wp-content/uploads/MoneyMarketsFed_Campbell_July-2019.pdf

 

I think we are nowhere near an exit. :)

"Only those who will risk going too far can possibly find out how far one can go."

The quote is from T.S. Eliot and apparently was meant to underline the positive attributes of risk taking.

However, the quote was tweeted in 2015 by a higher office hopeful who happens to have a lot of influence now and I submit that risk taking is like Janus, the Roman god with two faces.

 

I will leave the conclusion to Mr. Bernanke himself (2010):

"The sequencing of steps and the combination of tools that the Federal Reserve uses as it exits from its currently very accommodative policy stance will depend on economic and financial developments." Indeed.

I just find that they are now ill-prepared under certain scenarios but who cares?

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CB - thanks for the link to Campbell's article.  its a bit technical but it helped provide the best explanation I've seen of what's happening to the US monetary system's plumbing right now. 

 

I'm not sure I agree with everything he says but his point about the intersection of shrinking the Fed's balance sheet and new bank regulatory capital requirements causing unintended liquidity consequences is very insightful.

 

Thanks again,

wabuffo

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I'm most apt to believe it's the higher capital requirements paired with Fed shrinking it's balance sheet/liquidity has is the main culprit behind the reduced dollar liquidity, but that's probably not the cause of the spikes, just what is making the spikes possible.

 

 

I've heard the tax payments which makes some sense (removes available cash supply), but also that also a ton of financial institutionals putting on steepeners (short 10-year, long 4x 2-year) in the markets where they long-side is typically funded with repo demand (increase in demand).

 

Lastly, Zerohedge has also partly placed blame on dealer Treasury inventory as they can't seem to unload them (to replenish cash), but the Treasury keeps running massive deficits/issuance tying up more and more dealer cash - once again, removing supply of cash from repo market.

 

So you have multiple factors reducing cash supply and/or increasing repo demand. None of this is caused by reserve reduction/CB balance sheet reduction, but the reduced level of reserves is what is allowing these smaller factors to have a larger impact.

 

Not sure I understand all of this myself, but have been reading everything to learn

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Regardless of why the repo rates increased dramatically and who was involved, in the end, it seems like several big boys in our financial system found themselves short on cash and with their pants down. I guess we all have seen this movie before.

 

I personally think the Fed shouldn’t have  stepped in, if if they borrow, they should have lend out at a high interest rate too. Perhaps this is related to the recent rebound in interest rates after a huge bull market in treasuries, but I am not sure.

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Yield curves have inverted, and suddenly the overnight rate goes to 10% on material volume?

To 5.5x the long-term rate (or more, if the Fed were not intervening!) It wasn't a glitch, and nobody knows (not guess) the cause?

 

At the basic level  ...

50B+ of debt couldn't roll, because borrowers continually saw no-bid, even as they were continuosly raising their offers.  That doesn't happen, unless you're in an extremely toxic environment. Maybe because those whose notes were maturing, deliberately chose not to buy new notes? and if so, why?

 

SD

 

 

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https://www.wsj.com/articles/short-term-funding-spike-raises-hopes-for-fed-cuts-11568807648

 

"The spike in overnight repo rates was caused by a string of coincidental events, including corporate tax payments and Treasury sales, according to analysts and investors. But those events only had such a startling effect because banks were already operating close to the minimum level of reserves they want to hold.

 

After the 2008 crisis, the Fed’s massive bond-buying programs led to a huge increase in reserves in the system. But that has gone into reverse as the central bank tightened monetary policy in the past couple of years. The Fed’s reversal has forced the U.S. Treasury to sell more bonds to banks and investors. That reduces the amount of money in the financial system because primary dealers buy the bonds using reserves.

 

The Fed believed there was still spare capacity of $200 billion to $300 billion in reserves before money would get too tight and overnight funding problems would appear, according to Morgan Stanley analysts. However, the combination in recent days of corporate tax payments and Treasury issuance showed that cushion may not have existed."

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https://www.wsj.com/articles/short-term-funding-spike-raises-hopes-for-fed-cuts-11568807648

 

"The spike in overnight repo rates was caused by a string of coincidental events, including corporate tax payments and Treasury sales, according to analysts and investors. But those events only had such a startling effect because banks were already operating close to the minimum level of reserves they want to hold.

 

After the 2008 crisis, the Fed’s massive bond-buying programs led to a huge increase in reserves in the system. But that has gone into reverse as the central bank tightened monetary policy in the past couple of years. The Fed’s reversal has forced the U.S. Treasury to sell more bonds to banks and investors. That reduces the amount of money in the financial system because primary dealers buy the bonds using reserves.

 

The Fed believed there was still spare capacity of $200 billion to $300 billion in reserves before money would get too tight and overnight funding problems would appear, according to Morgan Stanley analysts. However, the combination in recent days of corporate tax payments and Treasury issuance showed that cushion may not have existed."

 

So I...nailed it? Will never happen again

 

8)

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https://www.wsj.com/articles/short-term-funding-spike-raises-hopes-for-fed-cuts-11568807648

 

"The spike in overnight repo rates was caused by a string of coincidental events, including corporate tax payments and Treasury sales, according to analysts and investors. But those events only had such a startling effect because banks were already operating close to the minimum level of reserves they want to hold.

 

After the 2008 crisis, the Fed’s massive bond-buying programs led to a huge increase in reserves in the system. But that has gone into reverse as the central bank tightened monetary policy in the past couple of years. The Fed’s reversal has forced the U.S. Treasury to sell more bonds to banks and investors. That reduces the amount of money in the financial system because primary dealers buy the bonds using reserves.

 

The Fed believed there was still spare capacity of $200 billion to $300 billion in reserves before money would get too tight and overnight funding problems would appear, according to Morgan Stanley analysts. However, the combination in recent days of corporate tax payments and Treasury issuance showed that cushion may not have existed."

Liquidity strain has been brewing (FF rate vs IOER) for a few months in that corner of the market. If one has had to personally deal with working capital management with boots on the ground when the local banker calls more and more often, one may argue about 'technical' factors but the underlying problem may be an inadequate amount of 'excess' cash in the operating account.

can someone explain why there is a lack of liquidity in the overnight funding market when banks have massive excess reserves parked at the fed.

For various reasons (growth of money base with growth in economy, regulatory requirements and getting used to 'ample' {Federal Reserve terminology}reserves), it looks like the big banks have found their sweet spot in terms of 'excess' reserves and this new-normal attitude is accompanied now by a smaller appetite for low yielding government bonds.

The evolution of excess reserves and asset composition at big banks is interesting:

https://www.kansascityfed.org/en/publications/research/eb/articles/2019/how-have-banks-responded-declining-reserve-balances

{The} Campbell's article... is a bit technical but it helped provide the best explanation I've seen of what's happening to the US monetary system's plumbing right now. 

 

I'm not sure I agree with everything he says but his point about the intersection of shrinking the Fed's balance sheet and new bank regulatory capital requirements causing unintended liquidity consequences is very insightful.

 

Thanks again,

wabuffo

There is also the issue of the divergence between the increasing funding needs of the US government versus the, at least temporary, decreased international appetite for US government bonds, if hedging costs are taken into account.

https://home.treasury.gov/news/press-releases/sm743

https://www.newyorkfed.org/markets/gsds/search#

For the last link, go visual chart, US Treasury, coupon-bearing.

The primary dealers have built a significant amount of 'inventory' of various government debt securities and this inventory has been funded by the repo market.

 

Isn't fascinating that the Fed people have realized that their theoretical transmission mechanism (ivory tower to real economy) has not worked and now are finding out that their setup is preventing price discovery for US government debt?

Of course, the easy thing is to restart open market operations on a grand scale (somebody will be happy) but is this where we want to go?

I am planning to eventually visit Japan but not this way.

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I would highly recommend not to read Zerohedge.  They might occasionally get something right, but if this site is frequently read the negative influence that would impact one's judgment, is simply not worth it.    Especially if you are an investor.

 

 

 

 

 

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I would highly recommend not to read Zerohedge.  They might occasionally get something right, but if this site is frequently read the negative influence that would impact one's judgment, is simply not worth it.    Especially if you are an investor.

 

I definitely take what they say with a large grain of salt, but if you ignore all of the paranoia they do identify a lot of this stuff LONG before it hits the mainstream media.

 

They talked about this issue in the funding markets days, if not weeks, before the spikes in rates occurred.

 

The identitified the dollar funding issues that roiled markets back in 2015 before it was mainstream and identified the JPMorgan whale and the massive pricing defects in the CDX market being caused by him like a month or two before the trade blew up and put a multi billion dollar hole in JPMs balance sheet that year.

 

For getting first access to these stories the site is interesting and unique AND a welcome refrain from the "this time is different" that you see before every major crisis in the mainstream media.

 

But Zerohedge has called 10 of the last 1 recessions.

 

 

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75B here, 75B there and soon we'll be talking real money.

 

When I transfer funds from one account to another, I always double check (like some of you, I assume) the number of zeros in the number before pushing the enter button. Just once, it would be nice to work in the Big Office and to get the OK from Mr. Jerome and click an extra "0" just for fun. Oops!

But seriously, these guys are impressive. In just three (3) days, by pushing on the enter button once daily, they have 'injected' the equivalent of 16% of QE1, 34% of QE2 or 12% of QE3. I know it's not fair to compare the financial pressure easing facilities which are different but 1-the new liquidity pressures may not abate so easily given the unusually high supply of treasuries coming and given that somehow a higher coupon doesn't seem to be in the Fed offing and 2-QE1, which was initiated more than 10 years ago was supposed to be an emergency, temporary and easily reversible experiment.

 

In related news, the easing champion always ready and eager to buy any government bonds that needs to be bought just released inflation numbers and some are disappointed and are hinting at more easing.

https://www.reuters.com/article/japan-economy-inflation/update-1-japan-august-consumer-inflation-eases-to-2-yr-low-in-blow-to-boj-idUSL3N26A0G9

 

In the spirit of being open-minded and to leave aside the primitive thought that higher debt should warrant higher interest rates, I'm relieved to have found out recently a potential explanation for the disappointment displayed by central money managers: they are not doing enough! According to the theory (the Wray curve) espoused by MMT apostles and the like, there is some kind of a reverse Laffer curve. The curve is "U" shaped with growth coming down with higher deficits and debt and then, somehow (in theory it all makes sense) growth picks up with even higher deficits. ???

 

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Yield curves have inverted, and suddenly the overnight rate goes to 10% on material volume?

To 5.5x the long-term rate (or more, if the Fed were not intervening!) It wasn't a glitch, and nobody knows (not guess) the cause?

 

At the basic level  ...

50B+ of debt couldn't roll, because borrowers continually saw no-bid, even as they were continuosly raising their offers.  That doesn't happen, unless you're in an extremely toxic environment. Maybe because those whose notes were maturing, deliberately chose not to buy new notes? and if so, why?

 

SD

 

There has to be a sizeable part of the market that is being frozen out of the market, and word is leaking out. The repeated and growing daily intervention; would seem to suggest that the Feds initial 50B injection is having to be rolled, AND that they are having to roll additional maturities as well. Creditors are taking their money out.

 

The last time we saw something like this was when the major I-banks collapsed.

Big numbers, and big impacts that further magnified based on degree of market connectedness. This smells like DSIB/GSIBs.

Brexit is coming up in 41 days, and a hard crash is looking more and more certain.

 

Are global overnight funding flows getting distorted as the Oct-31 date gets closer?

 

SD

 

 

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