Repo Blowup Was Fueled by Big Banks and Hedge Funds, BIS Says
bloomberg.com
bloomberg.com
> Repo rate is the rate at which the central bank of a country lends money to commercial banks in the event of any shortfall of funds. Repo rate is used by monetary authorities to control inflation.
Also, I just got back from an art show where a real banana and duck tape sold for $120,000, 3 times. I'm not making this up. Apparently, money is meaningless.
>What Is a Repurchase Agreement?
>A repurchase agreement (repo) is a form of short-term borrowing for dealers in government securities. In the case of a repo, a dealer sells government securities to investors, usually on an overnight basis, and buys them back the following day at a slightly higher price. That small difference in price is the implicit overnight interest rate. Repos are typically used to raise short-term capital. They are also a common tool of central bank open market operations.
https://www.investopedia.com/terms/r/repurchaseagreement.asp
That's a great turn of phrase, and a nice mental model!
DSL? Not sure I'm familiar with that term. Some tech jargon?
\s
I don't have a heavy background in finance, but in general I have a good enough understanding of the subject. In this case however the language was somehow making it harder than usual.
Didn’t find it very informative or good. The podcast discussion was opinionated and obtuse.
https://en.wikipedia.org/wiki/Repurchase_agreement?wprov=sfl...
EDIT:
It's worth noting that the collateral is usually government bonds (this is called "general collateral", or GC), with bonds from quasi-government bodies like Fannie Mae or the World Bank being the second most common kind.
One way to look at repo is that it's a way for companies with a big stock of bonds (eg banks) to pawn them to borrow money. This is usually the cheapest option for them to borrow money at scale, and so the repo rate is seen as an indication of banks' financing costs.
Another way to look at it is that it's a way to buy government bonds on credit - you can buy a bond and then immediately repo it, using the money you've borrowed to pay for the bond. You have to pay the interest on the repo until you sell the bond and pay it back, but you never have to come up with a big pile of cash.
I have no idea which use case is more common.
And the reason you'd do this is... to lock in yield in a declining interest rate environment?
The five-year US treasury currently yields 1.658%, and SOFR, a measure of repo rate, is currently 1.55%, so that looks a bit like free money. As long as interest rates don't go up.
You might be selling bond futures, and want to cover your position.
You might think some specific bonds are undervalued relative to others, in which case you can buy the undervalued ones on repo, short-sell some overvalued ones, and wait for the market to correct itself.
I'm sure there are many far more ingenious things you can do with bonds.
A more relevant example is if futures are trading rich relative to bonds - say they are too expensive by 1/32th (about 0.03%). In this case you buy the bonds on repo and sell futures against them, expecting to profit when the price gap closes. Of course, 0.03% is not much profit, so you use 50x leverage (which you can easily do on repo, because it is secured borrowing) turning it into a 1.5% profit.
(Side note: as someone who "should" benefit from more expensive liquidity as a holder of a money market fund, I looked up the Vanguard Prime MMF, and it turns out it doesn't hold any repos[1], even though that's a valid asset class for MMMFs[2]...)
[1] https://investor.vanguard.com/mutual-funds/profile/portfolio...
[2] https://www.pimco.com/en-us/insights/investment-strategies/f...
>New SEC rules require that government money market funds hold 99.5% of assets in government-related securities, including Treasury bills, agency discount notes and repurchase agreements (repos).
However, they would then 1) lose the yield on the bonds and 2) instead need to keep large amounts of money on some account and trust that the bank doesn't go bust. Bond holding is used as an alternative to deposits.
The government also doesn't want the repo market to shut down, because that means everybody dumps their gov bonds, since they wouldn't need them as collateral anymore. The dollar amount of outstanding repo contracts is measured in trillions so this would imply a catastrophic increase in the cost of borrowing for the government.
There's also the urinal that sold for $1.7M in 1999 https://en.wikipedia.org/wiki/Fountain_(Duchamp)#Art_market
That’s the discount rate. Repo rate is the rate of borrowing under repo agreements. Both private and monetary participants repo.
What’s a repo? Secured borrowing. Imagine you want to borrow $100. I quote 2% interest for one year with collateral. So I give you $100 and you give me a claim on your computer monitor. In a year, you give me $102 and I release title to the monitor. If you fail to pay, I get the monitor. This is traditional secured borrowing.
There is risk, though. You could trash the monitor before I get it. Or you could refuse to co-operate with my requests.
Here’s another way to structure that loan. You sell me your monitor today for $100. You further agree to buy it back from me (and I agree to sell it) in a year for $102. When things work, it’s the same transaction as above. When they don’t, I already have the monitor.
That’s repo in a nutshell.
Actually, it isn't. The financial aspect might be equivalent, but look beyond the purely financial characteristics from your phrasing and you also relinquish any utility you'd have gotten out of the monitor in that time. Depending on number of monitors you have and other circumstances, that lends the transaction a very different character from the first.
EDIT: Downvotes without substantive replies or explations do nothing to further overall discourse.
I stand by my assertion that a classical collateral secured transaction is fundamentally different than a repo as described.
I'm open to having my mind changed. Just be aware, I don't look at transactions of value as only being financial in their entirety unless explicitly set out. Other forms of circumstantial value can and do emerge.
Off the top of my head, you give up on any cashflows, such as dividends/interest from the security and maybe also some anciliary rights, such as voting rights or whatever rights bondholders get.
However, you account for forgone cashflows by adjusting the repurchase price accordingly. As for the rights, you can recall the repo (it's usually done overnight).
I'd say that represents a very different transaction Still depending on where or not an important vote is coming up in the meantime, and who you are selling your voting stake to.
You shouldn't be downvoted. The observation is correct.
In a collateralized loan, the borrower owns the collateral. In a repo, the borrower does not. This is one reason why companies finance capital equipment with secured loans, not repos.
A repo also involves two collateral purchase-and-sale transactions; a collateralized loan involves zero. This restricts it to highly liquid assets, where everyone agrees on prices and settlement is fast and cheap. In practice, this almost exclusively means Treasuries.
I was handwaving when I said they're the same transaction. They're symmetrical, cash-flow wise. But you can't replace secured loans with repos or vice versa. Repos are secured borrowing with minimal counterparty risk. Secured loans are secured borrowing with broad asset coverage.
> a classical collateral secured transaction is fundamentally different than a repo
Not fundamentally. Just different. (I'd also note that the "classic" collateralized transaction is a spherical cow.)
Lender leasing the collateral to the borrower makes a repo functionally identical to a secured loan. Lenders requiring ring-fenced collateral (e.g. in a cash-backed loan) are repos with extra steps. This symmetry belies their fundamental similarity.
There are legal differences in edge cases. But fundamentally, they're both collateralized borrowing.
Please don't do this. It adds no information and the site guidelines explicitly ask you not to, as you'll see if you read them to the end: https://news.ycombinator.com/newsguidelines.html. It also guarantees further downvotes, and this time they'll be correct because you broke the rules.
That's the reason it sold for $120k.
I am not going to argue in favour of the banana. But I am going to argue in favour of (expensive) art.
If I had only $10 and $1 would buy me food and shelter, then I would pay $9 for a Monet or van Gogh. Why? Because if I never see or possess an actual Monet or van Gogh, how can I verify things about the past? How can I verify anything? How can I have a physical and complete connection to the past?
To take a more historic example, if anything new (and real) about the man called Jesus is discovered, it would be equally valuable to nonreligous people as to religous people. Suppose for a moment that you find Jesus's diary and in it he wrote: "Can people please stop writing four separate accounts of how I am the messiah; I am not." Wouldn't the change that would bring about be more significant than the amounts of money spent in various contexts? For the record, I don't think the Jesus example matters much in 2019. But back in the Renaissance, our connection to the past (and the past's knowledge) was critical. Maybe Euclid's elements is not "art" to you but it sure as hell should be preserved as though it were art.
Art and artifacts are to history as experimentation is to science.
That would be in line with passages like John 1:3 where John insists the purpose of Jesus's piety isn't so he can be messiah, but rather so that the rest can follow his example and become like him. So Jesus claiming there should be no difference between him and us would be consistent with other passages in the bible.
https://ftalphaville.ft.com/2019/01/29/1548762302000/Don-t-f...
One bit in there is this:
>Second, as a result of the above, nobody really knows what the true cost of regulating the system is, or to what degree Basel III has changed the market in terms of elasticity.
In the OP article, this was the thing where I have mixed feelings:
>JPMorgan Chase & Co. Chief Executive Officer Jamie Dimon has put the blame on regulators themselves. He said in October that his firm had the cash and willingness to calm short-term funding markets but liquidity rules for banks held it back.
On the one hand, I think it reasonable to sprinkle a little salt over anything coming from the global banks, especially when they are telling you they want to be regulated less. But on the other hand, JPMorgan for whatever reason really does seem to want to be that quasi-lender of last resort at the right price. They did it last year. I think Kaminska in my linked article has a pretty fair view that post-crisis regulation changed the game in ways we might not fully acknowledge or be aware of.
More like, they realize there is too much risk of intraday bankruptcy: https://wallstreetonparade.com/2019/11/intra-day-bankruptcy-...
Jamie Dimon would probably love to get credit for duplicating that feat.
The BIS report "September stress in dollar repo markets: passing or structural?" https://www.bis.org/publ/qtrpdf/r_qt1912v.htm
If you downvote me at least list why this repo problem affects anyone.
reference: https://wallstreetexaminer.com/2019/12/chart-shows-fed-not-q...
But it did, even if for just a day.
Firstly, there's a so-called "reserve management operation" which is intended to increase reserves held at the Fed by purchasing Treasury bills. Increases in reserves implies greater liquidity to support money market activities. This definitely shows up as a growth in the Fed balance sheet, as the policy is to roll into new Treasury bills at maturity.
Secondly, there's an ongoing campaign of overnight and term repo operations where necessary to achieve the policy target rates. These are short-term, and do not result in a significant balance sheet growth.
See the statement from the NY Fed: https://www.newyorkfed.org/markets/opolicy/operating_policy_...
No, it isn't. I stated exactly what they have done. If you want to make excuses for why they did it, go ahead. It seems you want to.
The delta of the FRB's balance sheet between Sept and now is 4066-3761 == 305B. It's not 415B, but it's not even remotely close to 0, either. During this period, there has only been a single weekly draw-down. All other weeks have been accumulative, and should be considered QE4 unless and until these operations stop occurring.
Ref: https://www.federalreserve.gov/monetarypolicy/bst_recenttren...
If banks are not capable of engaging in interbank lending while maintaining elevated regulatory levels of liquidity then they've filled their books in such a way that they are not capable of doing one of the fundamental maintenance activities of the financial system.
This is also in essence a sort of signal that all is not well, since there is clearly not enough realizable margin between what the banks portfolios can generate vs. what they have to generate to be capable of playing clearinghouse for another actor.
My hunch is, this repo market is probably a normal mechanism used to moderate the system overall (some actors will have a good period, some'll have it bad, but over time everyone averages out) when the market is healthy, and generating actual value.
I think what we may be seeing now, is pickings starting to get so slim because of low interest rates/lower spending/lower actual (not surveyed, but actual) growth such that everybody is now turning to the Fed at the same time, because everyone sees everyone else as a threat to their liquidity.
The point is that in a healthy market, your growth should be able to surpass your minimum drop dead liquidity reserves.
We aren't seeing that so I'd say we aren't experiencing a healthy market; and no, I don't think the higher liquidity reserves are the chief cause of the unhealthy market. I think we're starting to run into the physical barriers in several industrial verticals as the low hanging fruit starts to dry up, and growth is becoming less and less certain, as well as less and less equitably distributed.
That's my wild-ass-guess anyway.
The explanation for the FEDs doing the lending is it will spike short term rates or something. Why can't we be mad that the Fed is willing to do this? Like what if I'm one of the institutions waiting on the sidelines to make some money off of short term lending and the Fed keeps tamping down on what could be a source of profit?
The magnitude is concerning.
When confidence in overnight lending between banks reduces (because the other banks realise what this funding is for), the interest rate (measure of risk) rises.
For repo rates: 2.5% is high, 10% brings the house down, and has a blast radius that impacts the entire system.
From the article:
This [repo] market, which relies heavily on just four big U.S. banks for funding, was upended in part because those firms now hold more of their liquid assets in Treasuries relative to what they park at the Federal Reserve, officials at the Basel-based institution concluded in a report released Sunday. That meant “their ability to supply funding at short notice in repo markets was diminished.”
From the lender side, repo financing is collateralized so if someone can't pay, then the lender doesn't care because they've got the collateral bonds already; it's not ideal, but it's not a disaster.
From the borrower side, if someone really needs short-term liquidity and would have usually used repos but can't get any right now, then they do have available bonds that they've used as collateral for that repo, so if they really need cash then they can sell the same bonds instead of borrowing against them. Again, that's not ideal and they'll probably lose some money on an urgent sale, and their plans to earn some profit on that borrowed money won't materialize, but that shouldn't trigger a crash that would affect the whole system.
The opposite is captured with “reverse repurchase agreements” which is exactly what I described, with the roles inversed.
It is actually quite interesting, but doesn’t come up frequently in daily personal finance much at all.