Comment by harmmonica | Hacker News Reader

Comment by harmmonica | Hacker News Reader

Here is my admittedly ignorant question about this: is it possible that the institutions borrowing these funds are actually using those funds not for relatively low-risk purposes (e.g., paying taxes), but instead to trade "overnight"? Similar to how a high-net-worth individual can borrow against their assets for a very low rate and then turn around and invest those cheap-interest-rate funds into higher-return (i.e., riskier) investments?

This is wholly unsubstantiated, but a link someone posted on this issue in a previous submission on HN (I can't find it) suggested that hedge funds in particular are the main institutions causing this, that the too-big-to-fail banks (JP, BofA, etc.) are unwilling to lend to them in the repo market because the hedge funds are taking too much risk with those funds, and the hedge funds are in turn forcing the fed's hand by telling them that they either step in with funds or they'll either be forced to sell assets en masse or, worse, fail. I'm probably using the wrong language to describe the mechanics of how this would actually take place (e.g., I'm not suggesting a hedge fund actually calls up and forces the fed's hand).

I have seen multiple people assert there's a reasonable explanation for this and others suggest this is just more QE and that the market, after years of QE, can't function properly without it, and so I'm floating what is likely a conspiracy theory as an attempt at getting an explanation from someone informed. Nearly impossible to believe this is a benign event. The parties (the fed, the big banks, hedge funds) haven't earned that trust so if it is benign then maybe there's a first time for everything.

> is it possible that the institutions borrowing these funds are actually using those funds not for relatively low-risk purposes (e.g., paying taxes), but instead to trade "overnight"?

Yes. That's the purpose. You want banks repo'ing Treasuries so they don't dump them (or their mortgages) to pay taxes (or employees or creditors). Repos finance the asset side of the borrower's balance sheet. Tying fungible dollars to specific liabilities is a losing game.

And if someone wants to repo Treasuries to take a new risk position, that's fine. The cash is still injected into the money market through the acquisition of the position. That's the point of the Fed's repo operations.

Note that hedge funds aren't at the Fed's repo desks. They're at the banks'.

> this is just more QE

Repo pre-dates QE. And the Fed supporting money markets goes back to its founding purpose. QE was novel in its scale and the assets it supported, not its act per se.

Helpful info and I understand repo predates QE, but could you shed some light on why this came about unexpectedly, why you think the funds dried up all of a sudden (and caused the repo rate (rates?) to skyrocket), and why the fed said, when it first started injecting funds, that it was a temporary measure (which is what all the pundits also said when it first started), but now is stretching the definition of temporary?

Believe me I want to believe it's benign, but as I understand it if the fed hadn't stepped in the repo rate would've been high single digits and things would've ground to a halt.

Also, I've heard the too-big-to-fail banks suggest that the funds would be available in the repo market if not for all the regulations around reserves, but I gotta be honest my trust level for what Jaime Dimon et al say is pretty low and in fact if they're saying it it makes it even more suspicious. That's my problem of course, but just looking for a more detailed explanation.

> could you shed some light on why this came about unexpectedly

There are hypotheses. The involve post-crisis capital-requirement rules making banks more conservative with their cash interacting with unexpected demand for cash from tax payers. (There is another around carry trades [1].)

At the end of the day, this is all speculation. Predicting demand for cash is difficult. It's also the Fed's job. That we can complain about an overnight rate spiking for a few hours is, itself, a luxury.

> as I understand it if the fed hadn't stepped in the repo rate would've been high single digits and things would've ground to a halt

Probably. Liquidity crises in leveraged markets force selling, which lowers collateral values, which forces selling, et cetera.

The Panic of 1907 is one of the clearer cases of an unregulated money market turning a liquidity crisis into a solvency crisis [2]. This is a known market failure for which a lender of last resort is a solution.

[1] https://news.ycombinator.com/item?id=21827998

[2] https://en.wikipedia.org/wiki/Panic_of_1907

I would bet on the carry trade caused by negative interest rates in the EU.

With rates negative there, it makes sense for savvy traders to borrow in Euros (and get paid for it), convert those Euros to Dollars at a U.S. bank (which requires that the bank have dollars available), and then lend in Dollars (and get paid for it). With everybody doing this, the banks quickly run out of dollars and accumulate large euro reserves. The accelerated lending at the discount window is needed so that banks can service all the traders looking to exchange euros for dollars.

The natural economic response to the carry trade would be for the euro to weaken and the dollar to strengthen until interest rates equilibrate, but this'd have political implications that are unacceptable: notably, it'd make American goods even more expensive overseas and deepen the trade imbalance, which would cause job losses in manufacturing and other competitive domestic industries, which would sell out Trump's base for Wall Street's interests again. So the respective central banks get locked in a competitive race to the bottom, where the ultra-loose monetary policy in Europe has to carry over to the U.S. because otherwise either exchange rates or interest rates has to move opposite stated government policy.

Thank goodness someone else understands that banks hitting the big sell button on their pile of Treasuries, daily, would be Bad, thus the repo market.

Well think about the supply side - they would rather take 1.5% return(IOER) than loan out at 1.6-8.0% to their peers. If it was low risk why do it? Paying taxes is not considered low risk, you don't really get any return on taxes as a bank.

I follow this topic on real vision with info from some insiders and big name finance people. The whole thing is a mess. Like spaghetti code with thousands of if statements and no comments, and none of the "developers" (in the Fed or in the trading desks) is answering any questions.

The big take from all this is that the most profitable way forward for the banks now is to creatively mess up as much as they can and declare "out of my control" reserve emergency. What finance people find fascinating is there are no leaks to the public. No whistleblowers and no regulator questioning it in general.

The official explanation doesn't make much sense. Both the taxes and the basel 3 provisions were known well in advance and the projections of the profits are within normal ranges. It doesn't make sense that they were caught by surprise.

It seems that some banks just decided to stop funding the overnight and short term repo needs of some other banks. There's lots of speculation about why. [1]

1. https://wallstreetonparade.com/2019/12/bis-drops-a-bombshell...

There’s speculation that the negative yield in euro zone causes people to borrow euro to buy dollars to do currency carry trade. This in turn soaks up all the dollars out there.

Reply on news.ycombinator.com