Amid an escalating funding squeeze, the Fed stepped in to temporarily “solve” the problem.
With a massive spike in GC repo pulling effective fed funds higher, the New York Fed addressed the situation on Tuesday, announcing a $75 billion overnight repo operation “in order to help maintain the federal funds rate within the target range”. Here, visually, is the problem:
Tuesday’s action by the NY Fed was the first such operation in a decade (these were common prior to the institution of the post-crisis policy regime).
Read more: ‘The Levee Has Broken’ – Misbehaving Repo Market Underscores Loss Of Fed Control
It was all at once an admission by the Fed that they had lost control, and an attempt to put a Band-Aid on the situation pending another IOER tweak and, eventually, the advent of a more permanent fix, whether that’s a standing repo facility or the restart of asset purchases.
Overnight repo traded at 7% on Tuesday after Monday’s “chaos”, underscoring the need for the Fed to do something in a hurry. As GC repo continued to press higher, it spilled over into other reference rates and manifested itself in other measures of funding stress.
Here’s the press release from the NY Fed:
This repo operation will be conducted with Primary Dealers for up to an aggregate amount of $75 billion. Securities eligible as collateral in the repo include Treasury, agency debt, and agency mortgage-backed securities. Primary Dealers will be permitted to submit up to two propositions per security type. There will be a limit of $10 billion per proposition submitted in this operation. Propositions will be awarded based on their attractiveness relative to a benchmark rate for each collateral type, and are subject to a minimum bid rate of 2.10 percent.
Ostensibly, $75 billion should “do it”, so to speak, given estimates of a $50 billion funding mismatch, but as documented in the linked post above, this is going to be something that has to be addressed in a comprehensive way considering the structural factors at work.
Unfortunately, things didn’t go exactly according to plan. The operation was canceled due to “technical difficulties”, which were quickly resolved. Ultimately, it was reopened and the NY Fed took $53.2 billion of Treasurys and securities in the operation.
While some of the pressure should abate on its own, there are lingering questions about why things didn’t get better on Tuesday.
“The settling coupon auctions and corporate tax payments yesterday were a factor, and the inflated dealer balance sheets have also been an issue”, Stone & McCarthy wrote this morning, before noting that “the dealer balance sheet situation isn’t anything new, and with the auction settlements and tax payments in the rear-view mirror, we would have expected to see pressure ease”.
But it didn’t – ease that is.
“Instead, the opposite occurred, and we’re not entirely sure why there’s been such a sudden shift”, the same note reads.
Maybe Jerome Powell will have some answers on Wednesday.
| Operation Results for Tuesday, September 17, 2019 Last Updated: Tuesday, September 17, 2019 10:12 AM Number of Operations Today: 2 |
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| See announcement from Sept 17, 2019.
Deal Date: Tuesday, September 17, 2019
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Not sure of the source, but a friend just sent me this. *N.Y. FED CANCELS REPO OPERATION DUE TO TECHNICAL DIFFICULTIES 09:46:53 They had announced a $75B O/N repo to calm worries… But cancelled due to ‘technical difficulties’
see updates. it was reopened. they took $53.2 billion of Treasurys and securities
Yep, and obviously I had not read beyond your title when I posted the comment above, so apologies.
Why do I think this is about foreign collateral and a loan to the Saudis?
Jeff has been doing repomania for years and dollar shortage:
“In the post-crisis period, the lack of substitute for MBS remained an ongoing hurdle (especially since some banks particularly in Europe had sold their MBS to the Fed in QE and then bought PIIGS bonds as their primary repo substitute). In other words, there’s been a collateral shortage ever since the word subprime entered the mainstream vocabulary.
Banks, however, have not sat idly. They’ve been creative in attempting to deal with the constant lack of supply (before the T-bill deluge). One way around it was to have transformed other forms of lower tier collateral using what UST’s (or German bunds) might be available.
Only, in this case it wasn’t subprime MBS that was the starting block for the transformations. Instead, more and more, it was junk corporates, CLO tranches, leveraged loan products and the like; and, more than that, all of those things offshore, Eurobond, and EM.”
https://www.alhambrapartners.com/2019/09/17/nasty-number-four-repo-chaos-taf-makes-a-comeback-and-eff-shows-us-how-inept-officials-really-are/
“Jeff has been doing repomania for years”…
He sure has. LOL.
Not in a condescending way or anything. He’s just super into it. Which is great. Just amusing sometimes.
Yah, he’s sort of in the spotlight lately after being in the darkness for a long time:
Today: China Theory
if repo market is lender of last resort for the offshore $ funding as Jeff Snider been claiming for long time, is it the Chinese who got all there dollars to prop up RMB?Roman Kalinin @Roma_Kalinin
Last wk: So what should they do? Encourage the Treasury to issue more of the long bonds the market is demanding: 30- or even 100-year. Feed the beast. Then stop quantitative easing: It doesn’t work and soaks up collateral. Next, stop paying interest on reserves. Maybe even create a nontradable “Treasury-R” to act as reserve currency elsewhere, freeing up more bonds. If history repeats, there are about 90 days until China repos roll over again.
https://www.wsj.com/articles/the-fed-cant-see-its-own-shadow-11567969957
From a few months ago:
A bigger problem is that the repo facility would not just cap the repo rate, but together with the haircut schedule, it would effectively put a floor on the price of the U.S. Treasury collateral. Why would anyone sell a Treasury for less than the price implied by the Fed’s standing repo rate? Suppose, for example, that (since banks can hold Treasurys of any maturity to meet their LCR) the facility would accept Treasurys of all maturities at haircuts that rise with the maturity. In practice, this would put a ceiling on the entire yield curve. That is, the repo facility would become a way of controlling the entire Treasury term structure! To avoid that outcome, the Fed would need to accept only short-term Treasurys at the standing repo facility.
And, this may not be the end of the story. Once the Fed creates a U.S. Treasury repo facility, the next time the system is under stress, there will be significant pressure to broaden acceptable collateral (albeit at varying haircuts). That is, as is the case with discount lending, a bank would be able to take virtually any collateral to the Fed and obtain reserves. In fact, Selgin proposes that we simply go there from the start.
https://www.moneyandbanking.com/commentary/2019/6/14/the-brave-new-world-of-monetary-policy-operations
Kind of a intertwined related element here, in terms of smart-money banks front-running monetary policy and being steps ahead of the dumb-money CB’s (just say no to QE and start regulating banks again … Make Banks Better Again ==> MBBA):
Quantitative Easing and the Hot Potato Effect:
Evidence from Euro Area Banks
Ellen Ryan & Karl Whelan
Vol. 2019, No. 1
In this sense, while we find the money multiplier model’s hot potato effect is alive and well, the actions of banks in moving on reserves are not consistent during this period with the model’s assumption that all excess reserves get turned into loans, get spent in the real economy and then create further increases in credit. Still, it is likely that the mechanism ( Asset Purchase Programme) documented here has had an effect in driving
down European bond yields and we believe this effect is conceptually different from the portfolio rebalancing effect which has dominated the literature on QE.
Can anyone explain, in terms suitable for the simple minded (me), what drove up the repo demand (or drive down the repo supply) to cause this problem to manifest today vs not manifesting last week? What’s the underlying message?
It’s not simple:
And so to answer our original question, changes in administered rates reach markets where the Fed does not intervene through the web of interconnected relationships between both onshore and offshore participants and through a host of short-term financial products. These interlinkages and connections are the basis for the efficient pass-through of monetary policy.
https://libertystreeteconomics.newyorkfed.org/2019/07/from-policy-rates-to-market-ratesuntangling-the-us-dollar-funding-market.html
“The PBOC may see the liquidity released via RRR cuts as providing enough liquidity to the market,” said Frances Cheung at Westpac. “A stable MLF rate does not mean LPR cannot fall. There is downside to LPR given its spread over MLF and given the lower funding costs amid the RRR cuts.”
Data released on Monday pointed to a deepening slowdown in China’s economy in August, with growth in industrial production at its weakest in 17-1/2 years amid spreading pain from a trade war with the United States and softening domestic demand. Retail sales and investment gauges also worsened.
https://www.reuters.com/article/us-china-economy-mlf/china-keeps-one-year-money-market-rate-unchanged-but-easing-still-likely-idUSKBN1W208N