The recent failure of SVB has driven markets into a frenzy, but the narratives are missing a broader point – bank runs are symptoms of a much bigger problem.
While the Fed has misdiagnosed the collateral issues plaguing the repo market, its new SRF can still alleviate some pressure during times of crisis.
The Fed announced that two new repo facilities will be established to ensure dealers can access cash during a crisis. But the Fed has misdiagnosed the problem.
The Fed hiked the rate it pays on reverse repo from 0 to 0.05% last week. While this sounds tiny, it has already pulled in $235bn. What are the implications?
Low Yields in 5 year Note auctions are lower by about 60 basis points since March. This indicates that the UST shortage is spreading to the rest of the curve!
Skyrocketing use of reverse repo with the Fed is a matter of collateral scarcity. Is this corroborated by investor demand at US Treasury auctions?
If you were offered an investment that returns -0.70% after two years, would you take it? No! Yet that’s what German 2 year bonds are trading for. Why?
What are the true consequences of QE? More frequent liquidity events, short term rates at 0%, dysfunctional repo, and a more fragile system; that’s what.
With markets & leverage at extraordinary levels, sky high reverse repo takeup is another sign that the financial system is vulnerable to shock. Caveat emptor!
Takeup of the Fed’s Overnight Reverse Repo facility has surpassed its Covid high, reaching ~$300 bn in the last 3 weeks. Why the sudden & dramatic increase?