You'll probably be interested in this, it confirms what we're saying -- from Aleh --
Repo Market Still Strained As Demand For Tsys Remains Strong
Fails in the repo market - where banks and other firms lend securities in exchange for short-term loans - occur when a security isn’t delivered on time and points to the surging demand for Treasury securities, even as the Federal Reserve continues to funnel more and more government securities into the market.
While the mad dash for Treasurys is of concern, repo insiders are still confident that a few more fails don’t mean a protracted, systemic failure of the kind suffered during the 2003 market squeeze, or in the chaotic week following the Sept. 11, 2001, attacks. They note that in the current environment, when cash is king, there is an economic reason why some market participants might find it more lucrative to let a repo transaction fail.
Fails on Treasury repos have surged recently, to $900 billion in the first week of March, from $190 billion at the end of last month, according to the latest figures from the New York Federal Reserve.
One signal of fails is when the general collateral rate charged on lending cash against a basket of securities approaches zero. Wednesday, this rate skimmed below 0.5%, leaving at one point a gap of around 200 percentage points to the Fed funds rate for overnight borrowing. Individual Treasurys maturities were quoted as low as 0.10%.
“As soon as we approach zero we have this somewhat obscure effect whereby it’s cheaper to fail than to honor a negative interest rate,” said Matt Thomas, head of repo trade at BNP Paribas in New York. In such a scenario, the recipient of the security would be motivated to hold onto the Treasury note because swapping it back for the lent-out cash would end up costing them.
But Scott Skyrm, head of the repo desk at brokerage Newedge, noted that a pickup in fails Wednesday and said that could further down the line indicate disruptions to the settlement system and securities being permanently removed from the market.
“We can go either way,” he said in research.
The ongoing strains in repo comes amid multiple efforts by the Fed to satiate the desire for top-quality collateral. Recent so-called reverse repo operations to release more government paper - the latest of which Wednesday filled $7.25 billion of orders - and outright selling of Treasurys have resulted so far in more hoarding by banks unwilling to lend out risk-free assets, on the basis that they may not get them back. Wednesday the Fed sold $14.999 billion in Treasury bills outright.
Demand for Treasury bills has been rampant, with the three-month bond equivalent yield on the T-bill plummeting to a fresh low Wednesday of 0.52%. It later clawed its way back up to 0.60%, down 32 basis points. The rest of the Treasury market Wednesday was also getting a boost from financial market fears, with the two-year Treasury up 6/32 yielding 1.49% and the 10-year 26/32 higher at 3.35%. Traders are looking ahead to more Treasury supply programs from the Fed, such as the Term Auction Facility auction on March 24, and the first swap under the Term Securities Lending Facility shortly after.
The clearest sign of a return to normalcy in these less-than-transparent repo markets will be a slide in the Treasurys sector’s failure rate and a sustained increase in the general collateral rate, closer to fed funds, participants say. Lehman Brothers is looking for a rise back to within 10 basis points of Fed funds, which would mean around 2.15%.
Strains erupted in other, more obscure parts of the market Wednesday - with a significant widening seen in dollar/yen basis swaps, which widened out to almost 50 basis points before coming back in to 25 basis points. These swaps, a form of the carry trade where traders borrow in floating-rate yen and swap back into dollars, have been trading between zero and 10 basis points in recent weeks, according to a trader.
Other corners of short-term debt also experiencing major disruptions, which the Fed’s extraordinary measures won’t be able to solve.
The municipal auction-rate securities market, which flat-lined last month, has shown no sign of revival since the Fed’s multiple actions. In fact, some securities have become even more unattractive since lower fed funds means lower returns for investors.
The commercial paper market, which was the first short-term debt market to feel the sting of the credit crunch last August, also looks less attractive due to the Fed’s aggressive rate cut. The good news is this market has been recovering since last year’s turmoil when investors fled what had been considered a safe place to park cash.
In addition, short-term bridge loan financing is still stuck on banks books since more liquidity in the system hasn’t changed investors appetite for risk. |
