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It’s starting to look a lot like September in the repo market.
Borrowing costs have been climbing over the past few weeks in the short-term funding market, raising concerns that December could see a repeat of September’s repo squeeze that sent panic across Wall Street and the Federal Reserve.
The increased costs comes ahead of the typical year-end period when banks engage in “window dressing,” or presenting the best possible version of their banking operations to regulators for their annual snapshots. In practice, that often means big banks will pull back on lending, thus shrinking the amount of credit flowing through the system, as they seek to avoid regulatory surcharges that would otherwise force them to carry additional capital on their balance sheets.
On Wednesday, Jamie Dimon, CEO of JPMorgan Chase & Co., suggested the U.S. central bank should tweak postcrisis regulations that may have contributed to the scarcity of liquidity in the repo market.
A recent uptick in rates has analysts worried that borrowers looking for a bridge into the new year could surge in the final weeks of 2019, leaving hedge funds and banks that pledge Treasurys and other high-quality collateral in exchange for short-term loans, in a cash crunch.
Since the beginning of last month, the cost of drawing funds across the so-called “turn,” or the crucial stretch between Dec. 31 to Jan. 2, has crept up more than a percentage point to above 4% as of Dec. 10, according to data from Curvature Securities.
That compares with the more muted cost of overnight funding, which DTCC data shows has lately been around 1.60%, or above than the lower end of Federal Reserve’s current 1.50% to 1.75% target federal-funds interest rate range.
See: Big U.S. banks’ reluctance to lend may have caused repo-market shock: BIS
Read: The repo market is ‘broken’ and Fed injections are not a lasting solution, market pros warn
The higher cost of financing through year-end could portend a repeat of September’s funding squeeze when overnight repo rates surged as much as 10% from 2%, which drew an aggressive slew of measures from the Fed, including a halt to the wind down of its balance sheet and daily injections of liquidity into short-term funding markets.
To help market participants get past the fraught year-end period, the central bank already has been conducting longer-term repo operations. All three such offerings since September have been oversubscribed, with Monday’s facility drawing $43 billion of bids for $25 billion of available funds, an indication of the market’s ongoing funding needs.
While that might spell trouble, it could also point to less turmoil in the final weeks of December.
“I’m not expecting too much trouble,” Bill Martin, global fixed-income chief investment officer at Nuveen, told MarketWatch in an interview.
He said recent demand for longer-term repo funding by market players “is more about people getting ahead as part of year-end positioning,” than a sign of a looming crisis.
“The Fed is in control of the situation.”
