Fed Repos outstanding dropped on Friday, as Primary Dealers borrowed less cash in overnight repo Temporary Open Market Operations (TOMO), than they had on Thursday. They borrowed just $56.5 billion today versus $73.50 billion in overnight repos and $30.65 billion in 14 day repos on Thursday.
The total outstanding dropped by $17 billion to $188.7 billion. That was down from Thursday $205.7 billion, which was a record for this program.
No doubt that number will grow again. Every time there’s a Treasury settlement, the market must absorb new supply. The Fed wants the cost of that new supply to stay within the Fed’s desired range. The banks and dealers don’t have the cash to absorb that supply at rates this low, so the Fed must either buy it, or lend the dealers the money to buy it.
Fed Repos Finance New Treasury Issuance
These Fed repos are the method by which the central bank lends the money to the Primary Dealers. With a repo, or repurchase agreement, the Fed buys a security, either a Treasury bond, note or bill, or an Agency or MBS security, from a dealer, and the dealer promises to buy it back in a day (overnight repo) or after a stated term (Term Repo). The agreed upon repurchase price is a bit higher than the sale price. The difference is the interest rate that the dealer pays for those funds.
In essence, the Primary Dealer is just borrowing the money, putting up the Treasuries, Agencies, or MBS as collateral.
Meanwhile, the US Treasury auctions new T-bills every week, and new notes and bonds (called coupons) twice a month. Primary Dealers are required to bid at these auctions, and they end up with whatever paper that other buyers don’t absorb. It is a substantial portion of the total new issuance.
Tuesday and Thursday are the regular weekly T-bill settlement days. Coupons settle on the 15th and the end of the month, or the first weekday after if those dates fall on a weekend. Buyers must pony up the cash to pay for their purchases on those settlement days. So look for additional TOMO on those days. We’d expect borrowing needs to drop on Monday, Wednesday, and Friday, if they’re not mid or end of month coupon settlement days. Today being Friday, the dealers’ demand for repo money declined a bit.
Fed Repos Aren’t Enough, So the Fed Conjures Up Magic Wand Money to Buy Treasuries Outright
Meanwhile, since Fed repos alone won’t do the trick, the Fed has a new POMO (Permanent Open Market Operations) program under way. Since it started the TOMO in mid September, the Fed has also waved its magic money wand and conjured up and pumped another $35 billion into Primary Dealer checking accounts at the Fed.
It has promised to do $80 billion a month of that “at least into the second quarter of next year.” In other words, permanently. How do we know? Because the $80 billion per month is roughly equivalent to the expected amount of new Treasury issuance on average each month. In essence, the Fed is promising to absorb all of it. And that $80 billion or so, will just keep coming and coming.
The Fed Heard The Pigs Squealing and Delivered Enough Slop To Calm Them
Why did the Fed suddenly jump into action? First, the NY Fed trading desk talks online all day every day to the Primary Dealer trading desks. The NY Fed got an earful when repo rates spiked a couple of weeks ago. The dealers had simply run out of cash to absorb the onslaught of Treasury supply that had been burying them in inventory month in and month out. Likewise, the banks ran out of the ability and/or willingness to lend the money to finance those purchases. The bank to bank repo market dried up and repo rates spiked.
No doubt the dealers were squealing like stuck pigs to the Fed’s NY trading desk. It did not take long for the FOMC to hear the squeals and respond with tons of slop to calm the pigs.
The Fed Must Keep The Slop Coming
If the Fed wants to suppress interest rates, which of course it does, then it will need to do this as long as the Treasury is issuing paper at this rate. The Fed will need to absorb or finance the amount of new Treasury debt to cover the Federal Government’s obscene budget deficit.
Which is likely to be forever, or at least until the next tax increase to pay for all the shit that the Federal government wants to buy. Like weapons systems to protect the Saudis. Or junkets to properties like Inverarry Scotland, or the bedbug infested Doral Resort, owned by the crazy Dictator.
Of course, it might help if we had rational tax rates sufficient to pay for the stuff that we as a society have decided that we want, in addition to paying the Dictator and his cronies their skim. The medical industry skim alone costs the American people 8% of their gross domestic product. That money could be saved if the criminals did not design and run that system specifically to extract that skim. Those savings could then be used to shrink the deficit and reduce the government’s insatiable borrowing need.
But that’s not going to happen either as long as the criminals are in charge.
So the Regime and the rump Congress will continue to borrow us into an ever worsening financing crisis, and the Fed will have to print the money to pay for it all. Where that leads in terms of renewed asset inflation or consumer and wage inflation is anybody’s guess at this point. We’re still waiting for the Court of Technical Analysis (aka COTA) to render the verdict.
The Fed’s Magic Wand Money Hasn’t Bought Much
What amazes me is just how little all that Fed conjured money has bought since the crisis flared up in mid September. Fed repos have grown to $189 billion in TOMO since then, and $35 billion in POMO. That’s a total of $224 billion in direct cash injections into Primary Dealer checking and trading accounts! Since the day this started, the S&P 500 has gained… oh wait… make that “lost”… 15 points. And the 10 year Treasury note yield is all of 6 basis points lower.
6 basis points! That’s what $224 billion bought. But at the same time, in the past 10 days, the yield on the 10 year note has risen by 22 basis points. So that money pumping only worked for the first 3 weeks of the program. Since then, it hasn’t worked at all. Bond prices have fallen and yields have risen.
Bond Prices Under Water Will Trigger A Downward Spiral
If they don’t reverse that soon, they’re gonna have a very big problem on their hands. For months, the dealers and everyone else bought bonds at lower yields and higher prices with repo money. The value of the collateral has since sunk and no longer covers the amounts borrowed! The dealers must either put up more cash, or they will be forced to sell the notes and bonds that they pledged. Prices will fall and yields will rise.
Yep, they gotta get this turned around immediately, or the margin calls will sink this market fast. We can only imagine how much the Fed would need to pump to stop that. It would be a lot more than it is currently pumping. One way or another, this looks likely to spiral out of control. We just don’t know if it will be a deflationary spiral, or a hyperinflation.
Yeah, in the short run the Fed did manage to get short term rates lower. Seems everybody wants to buy T-bills now. And likewise, it seems to be with good reason.
We are not out of the woods yet. Not by a long shot.
Bookmark this link to follow the Fed QE New story every day. Some day it will make an interesting case study for future financial historians.
Meanwhile, you can follow my in-depth analysis, forecast, and recommendations on how to protect yourself from the calamity now in process at Liquidity Trader.
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