Lending markets

Fed injects additional liquidity into overnight lending markets

The Federal Reserve said Monday it would increase the amount of money it is pumping into short-term debt markets during the current turmoil, reversing an attempt to wean investors off the funding it has been providing since September.

The move comes as nerves grow that market swings caused by the coronavirus are hurting funding conditions for banks and investors. It marks the next phase of the U.S. central bank’s efforts to contain the fallout, following an emergency interest rate cut last week.

The New York branch of the Fed said it would increase the size of its overnight and short-term operations in the repo market “to support well-functioning funding markets as market participants implementation of business resilience plans in response to the coronavirus”.

The repo market is where investors borrow money for short periods of time in exchange for high-quality collateral like treasury bills. The Fed will offer at least $150 billion in overnight lending — a $50 billion increase from what was originally offered — through March 12. It will also increase the limit on the amount of money it will lend to the market over a two-week period. from at least $20 billion to at least $45 billion.

“We haven’t seen funding markets stall, but this is the Fed’s way of ensuring funding markets stay open,” said Gennadiy Goldberg, senior US rates strategist at TD Securities.

The central bank has pumped billions of dollars into the repo market since a cash crisis in September sent borrowing costs skyrocketing overnight, although it has been gradually scaling back interventions.

The reversal came after crude prices crashed more than 20% on Monday in response to a price war between Saudi Arabia and Russia that threatens to flood the oil market with supplies just as the coronavirus hits demand. The fall in oil sent stock markets and government bond yields plummeting to record lows. Corporate bonds were also hard hit, especially those issued by the most indebted companies.

Ever since global markets began to tumble in late February, investors have been clamoring to use the short-term funding offered by the Fed. Demand reached more than three times the available funds offered for most two-week loans, while some overnight operations were also oversubscribed.

The Fed said on Monday that its accelerated repo operations were aimed at mitigating any risk of mounting pressures in the money market that could hurt its ability to implement monetary policy.

Analysts and investors are increasingly concerned that stock market instability is becoming a more fundamental threat to financial conditions.

“If the oil patch bleeds, it can push us into a situation where coronavirus issues feed into each other, and we end up in a dollar funding problem,” said Ernie Tedeschi, political economist for Evercore. ISI. “Any one of those shocks wouldn’t be enough on its own, but maybe both together would be.”

The precautionary measures are giving the Fed “breathing a break,” said Jon Hill, rates strategist at BMO Capital Markets, after the central bank announced its first emergency rate cut since the global financial crisis last week.

“The shock hitting the economy is not a funding shock, and [the Fed’s move] doesn’t avert the coming economic blow, but it does remove another potential problem that could arise this week,” he said. He added that he expected the Fed to continue to increase the size of its operations as needed to meet any elevated demand.

“The Fed wants to assure the market in every possible way that it is ready to act,” he said.

In response to September’s liquidity crisis, the Fed also expanded its balance sheet by buying Treasuries, which have maturities of one year or less – an attempt to further bolster liquidity in the system and, ultimately account, to reduce reliance on emergency repo transactions. .

It has been buying Treasuries at a rate of $60 billion a month, and analysts say they expect the Fed to continue doing so beyond April.