ZeroHedge.com has been warning about a “liquidity supernova” for some time, and is now warning that the repo market is on the verge of a major shock, writing:
A more troubling side-effect of this “liquidity supernova” is the ongoing collapse in short-term rates, which – as a reminder – we also warned about saying “the plunge in short-term debt (Bill) issuance (since there will no longer be an urgent need to keep cash balances in the $1+ trillion range) will compress short-term spreads (effective FF through 3M) to zero – or even negative – as there is suddenly a flood of liquidity which could prompt the Fed to engage the fixed-rate borrowing facility or even nudging the IOER higher.”
This, to be sure, is another point which suddenly has everyone’s attention and as Curvature’s repo export Scott Skyrm writes today in his repo market commentary, “The market is preparing for a deluge of cash. REG markets are progressively trading at lower rates each day and term markets are well bid.”
Yes, the GSEs already have more cash in the Repo market these days, but now the monthly cash is about to enter the market – typically from the 19th to the 24th of the month. That means even more cash chasing the same amount of collateral. Given where term rates are trading, the market is pricing GC to trade around .03% to .02% early next week.“
And on, and on, until GC repo hits 0%… and then goes negative sparking another mini repo market crisis, similar to the one from September 2019 only in reverse.
That’s the point made by repo guru Zoltan Pozsar, who in his latest Global Money Dispatch note lays out the problem by comparing it to Sept 2019, similar to what we said two weeks ago when we explained that “what is happening now is just the opposite and many, many times bigger, as almost one trillion reserves are about to be injected into the system as cash is drained from the Treasury’s account at the Fed.”
Here’s Zoltan:
During September 2019, we argued that the system was running out of reserves – too much Treasury collateral was entering the system and we needed a fixed-price, full allotment o/n repo facility to absorb all the excess collateral. Banks’ binding constraint was intraday liquidity, which constrained their ability to lend into the o/n repo market. When their lending stopped, repo popped…
Today, the banking system is running out of balance sheet, and money funds are running out of collateral. Soon there will be too much cash in the system; TGA balances will decline from $1.6 trillion to $500 billion by the end of June.
As the Credit Suisse plumbing experts writes next, “this roughly $1 trillion decline will occur either through waves of fiscal spending, which will expand deposits and reserves at large banks…
… or, if spending is too slow to meet the $500 billion target, through bill paydowns. Coupon issuance will be $1.4 trillion over the first half, and depending on whether the spending or paydowns scenario dominates, coupons will be bought mostly by banks, or shadow banks.”
Action Line: Is your portfolio prepared for a major shock? Would you know if it wasn’t? If you’re confused, I can help. I would love to talk with you.
