(Latest update on March 22, 2024.)
I am struck dumb by how repo has spread and now is absolutely critical to financial markets.
Even though it was at the heart of the collapse of Long-Term Capital Management in 1998, and triggered the upheavals of 2007 and 2008, and has been causing trouble and forcing bailouts ever since, most noticeably in 2019, 2020 and 2022 ….
And even though we all understand the dangers of borrowing short to lend long, which was why we used to restrict it to banks ….
And even though widespread worries continue, including at least 80 (!) public warnings in 2023 (see boldfaced dates below) ….
We have nevertheless undergirded our financial markets with the most unstable possible foundation: the repurchase market.
I just don’t get it.
I’m celebrating my 15th year tracking repos at RepoWatch.org (is “celebrating” the right word?), and at this point nothing should surprise me. But I’m just flabbergasted at how obvious the problems are and how oblivious regulators and participants pretend to be.
Over the past 40 years bank deregulation has allowed many financial businesses to play banker, creating such dangerous financial markets that only periodic Federal Reserve bailouts are preventing economic disaster.
Those bailouts are, shall we say, noticeable.
Nevertheless, after the 2007 and 2008 bailouts Congress and regulators toughened just about every aspect of financial markets except the global market for repurchase agreements, which was largely left untouched.
It’s not surprising that more traders then flocked to the repurchase market, right?
Fixes around the edges
Eventually regulators saw the developing hazards and began introducing fixes around the edges, in what is starting to look like desperation. For example, they have:
- 2014 and 2021: Created repo and reverse repo facilities where a variety of banks and shadow banks can repo with the Fed, for the first time making the Fed the dealer of last resort to the shadow baking system, which Congress never intended.
- 2022: Proposed regulations to increase central clearing of repos and other transactions involving Treasury securities.
- 2023: Proposed that firms “significantly” using Treasury securities for repo collateral and other trading – for example, some hedge funds – register as broker-dealers and face new regulation.
- 2023: Required that money market funds trading in the Treasury repo market have to make more monthly disclosures.
- 2023: Required some money market funds to charge a fee when investors try to withdraw more than 5 percent of the fund’s assets or when regulators determine it’s needed, in an effort to prevent runs, fire sales and 2008-style financial chaos.
- 2023: Announced a plan to start collecting data on the non-centrally cleared bilateral repo market, which is one of the largest remaining data gaps for financial market analysis.
But the fundamental problem remains: repo traders borrow short to lend (or invest) long.
That means repo is vulnerable to runs. As depositors can run from banks, so financiers can run from repo.
And repo has gotten embedded down into every unknown corner of the financial markets. We have no idea what’s going on out there.
“These days the financial markets are filled with shadow banks, broker-dealers, mortgage companies, and REITs that are all lending long and borrowing short,” said longtime repo trader Scott Skyrm in The Repo Market, page 254.
Regulators say they’re trying to improve data collection, so they can better see what’s going on, but instead they’re creating a tangled mess. The U.S. will soon have four different collections – cleared repo, triparty repo, uncleared bilateral repo and securities lending – that don’t communicate with each other.
Swell.
Fixes that will work
It’s become obvious that the danger is well known.
So are the fixes that will work.
Admittedly, these steps would be an extraordinary challenge and would have to be slowly phased in.
- Borrow short to lend long: Borrowing short to lend long needs to be done by banks. They’re highly regulated, and through the FDIC they pay for their own screw-ups, unlike shadow banks that expect the Fed to bail them out.
- Safe harbor: Eliminate the safe harbor that some repo financiers have enjoyed since 2005 when their borrowers declare bankruptcy. Why should repo investors get to immediately sell their collateral, forcing fire sales and pandemonium as in 2008, when most lenders can not? Consider exempting Treasury securities from this correction only if it’s imperative to finance the U.S. debt.
- Across state lines: Restrict banks mostly to their home states, as they were before interstate branching began in 1997. Intended to encourage competition and reduce prices, the deregulation instead spurred bank consolidation, hurt rural areas, and helped create the too-big-to-fail banks that today dominate and destabilize financial markets, including repo.
- Banks and shadow banks: Separate banks from other kinds of financial firms and return banks to the kind of public utility they used to be before most of the Glass-Steagall Act was overturned in 1999.
Skyrm ends his 2023 book The Repo Market this way:
“There’s a tremendous risk lurking in the shadows.”
Enough said.
Breaking Repo News 2023
Editor’s Note: The following list of repo news in 2023 comes from the Breaking News that I post daily at repowatch.org. To see 2024 news, go to Breaking News that I am posting now. – Mary Fricker, Editor.
JANUARY
January 2023: Shadow banking did not cause the financial crisis, said Norbert Michel with the Cato Institute in his book by that name.
*****
January 5, 2023: The Office of Financial Research proposed a rule that would require about 40 major firms, including the Fed’s primary dealers, to submit to the office 33 data elements daily – including haircuts and rates – on their non-centrally cleared bilateral transactions. The purpose is to finally improve transparency into the dangerously opaque over-the-counter repo market 15 years after it nearly collapsed the world financial markets.
*****
January 6, 2023: Now available from Amazon and bookstores, Repo Madness: A Simpleton’s Guide to the Street’s Wicked Ways, is “irreverent … never missing an opportunity to underscore the absurdity” of the repo market and shadow banking, says author M.E. Tuthill. A former stockbroker and financial writer, Tuthill minces no words in her opinion of shadow banking and its core financing scheme. “I want people to know it’s all nuts,” she writes.
*****
January 9, 2023: The Fed’s recent decision to repo with money market funds when they want to borrow or lend has calmed financial markets but at a big price, said Hung Tran, former deputy director of the IMF, writing for the Atlantic Council. Money market funds are now consistently lending more than $2 trillion to the Fed instead of to the financial markets, making the Fed “a money market maker of first resort, rather than a traditional lender of last resort during financial crises.”
*****
January 10. 2023: Repo is more interconnected with the financial markets than ever, and that makes repo a high priority for regulators and participants focused on stability and systemic risk, wrote Josh Galper, founder of Finadium, a securities finance consultant. “Disruptions in U.S. repo echo far and wide,” he wrote.
*****
January 11, 2023: U.S. branches of foreign banks played an important role in the 2008 collapse. Today they play an important role in setting what financial markets have to pay for cash, said a New York Fed report, and underlying it all is their repo lending.
*****
January 17, 2023: After the 2008 crisis, governments tightened regulations on banks but not non-banks, which have since multiplied dramatically worldwide, relying on repo and other short-term, high-risk financing, wrote World Finance. “The shadow banking system is an unstable system of leverage, asset bubbles and crashes, and then the regulator and the central bank have to step in ,,,,,” said Professor David Blake, an expert on pensions who teaches at City, University of London.
*****
January 18, 2023: Officials worldwide have made progress in regulating non-bank financial institutions as recommended by the Financial Stability Board in 2013 with a major exception. Recommendations for lowering risks associated with securities financing transactions such as repo and securities lending “is incomplete and continues to face significant delays in most jurisdictions,” the board reported.
*****
January 24, 2023: Pressing challenges in the global funding and financing markets include an ongoing scarcity of collateral caused in part by regulation that followed the Great Financial Crisis, said a Finadium report. This generally means banks start looking at assets that are less liquid and have lower ratings, the report said.
*****
January 25, 2023: The SEC’s September 2022 proposal for mandatory clearing of U.S. Treasury securities loans and repos with U.S. Treasury collateral “would cause deep disruptions to how securities lending works today,” wrote Josh Galper at Finadium.
*****
January 26, 2023: Since late 2021 lenders have been demanding more collateral, causing some borrowers to worry about their access to collateral, especially cash and sovereign bonds like U.S. Treasuries, reported Commodity Futures Trading Commission chairman Rostin Behman at the annual U.S. Treasury Market Conference. Among trades highly dependent on collateral are repo, securities lending and derivatives.
*****
January 26, 2023: Various panelists at the annual U.S. Treasury Market Conference thought increased central clearing of repo trades, all-to-all trading with every participant trading directly with others and public sector intervention in the market were all fine ideas, though they thought public sector intervention should be a “last resort,” The New York Fed reported.
*****
January 27, 2023: The repo markets in the U.S. Europe and Japan largely sailed tranquilly through the transition from 2022 to 2023, largely because of proactive measures taken by central banks, according to the European Repo and Collateral Committee report issued by the International Capital Markets Association and reported by Securities Finance Times and Finadium.
*****
FEBRUARY
February 3, 2023: “Generally speaking, the Fed is keenly aware of the relative fragility of US repo markets, and I would think they are putting pressure on the largest players and balance sheets, thus including BNP Paribas, to try to improve the US repo market infrastructure,” a source told Risk.net when discussing the Fed’s recent objection to the resolution plan submitted by BNP Paribas for its US repo operations.
*****
February 3, 2023: Large European banks engineer a substantial drop in their repo transactions when it’s time to report to regulators, in order to make their reports look more favorable and save money, which suggests regulators need to take action to limit this window dressing, said a working paper by the European Central Bank.
*****
February 6, 2023: Royal Bank of Canada (RBC) and JP Morgan are now the top repo dealers to U.S. money market funds, besting French bank BNP Paribas that has recently gotten negative reports from federal regulators, according to data from the Office of Financial Research as reported by Risk.net
*****
February 6, 2023: January volumes for Eurex Repo, which claims to be “the leading European marketplace for international secured funding and financing” are up 23% year over year, Securities Finance Times reported.
*****
February 8, 2023: A special focus on repo danger is one of the new components of the Fed’s annual stress tests of large banks, the Fed announced. Eleven of the largest banks will have to report potential losses across repurchase, securities lending and derivative transactions if their largest counterparty unexpectedly defaulted.
*****
February 17, 2023: Shadow banks that have borrowed a lot of short-term money to make long-term loans or loans to risky borrowers are vulnerable to rising interest rates and could trigger a financial collapse, said a report from S&P Global Ratings as reported by City A.M. Shadow examples include hedge funds, private equity firms, money market funds and special purpose entities, the report said.
*****
February 19, 2023: Financial crises like 2008 cause a rise in right-wing and left-wing populism because populists cleverly exploit voters’ loss of faith in their leaders, and the rise in populism persists over time, according to a study noted by the Financial Times.
*****
February 20, 2023: Hidden short-term debt at non-bank financial institutions and the vulnerability of money market funds continue to be a threat to financial stability, said the Financial Stability Board
*****
February 22, 2023: Minutes of the last Federal Reserve meeting showed the directors expressing concern about the potential vulnerability of non-bank financial institutions as the Fed continues to raise interest rates, Reuters reported.
*****
February 23, 2023: Islamic finance, which is governed by the principles of Shari’ah, needs repos so participants can access short-term funding on a “secure, low-cost and low-risk basis,” wrote the White & Case law firm. Repos are forbidden, but that’s changing, the firm reported.
*****
February 24, 2023: The Fed is using the repo market to soak up some of the massive amounts of cash in the financial system by accepting a huge volume of repo loans from financial institutions, wrote John M. Mason in Seeking Alpha.
*****
February 25, 2023: In Europe overnight interest rates called RepoFund Rates measure the cost at which market participants access short-term collateralized funding in the repurchase market and are “critical” to the health of a given financial system, wrote CME Group at Seeking Alpha. Financial institutions use the market to finance their and their clients’ daily operations.
*****
MARCH
March 1, 2023: Maybe investment funds should have a Chief Liquidity Officer to help the Chief Investment Officer anticipate and deal with sudden needs to raise cash that can threaten a fund’s survival, proposed global investment manager PGIM.
*****
March 3, 2023: The uncleared bilateral repo market drove the financial collapse in 2007-2008, and today, 15 years later, a top New York Fed official said it also was a driver of the bailouts in 2020 and must be made more stable, starting with the Office of Financial Research’s recently proposed rule to require more transparency.
*****
March 3, 2023: At the onset of the pandemic, the Federal Reserve had to take forceful steps to support market functioning and the flow of credit on repo markets and others because of the liquidity needs of many investors. Now regulators need to make reforms that reduce future market dysfunction so central banks don’t have to intervene, said Fed governor Michelle W. Bowman.
*****
March 3, 2023: Overnight repos by the New York Fed are a better way for the Fed to meet market panics than outright purchases of securities, and central banks should work to improve the efficiency of that process, said Lori Logan, president of the Federal Reserve Bank of Dallas.
*****
March 3, 2023: Central banks and regulators need to figure out how to handle repeated crises caused by non-bank financial institutions, so the institutions bear their appropriate level of responsibility, said Andrew Hauser, executive director for markets at the Bank of England. “The task is huge, and global in nature,” he said, and, “It is vital that this work continues with real vigour,” to prevent enormous future public costs.
*****
March 7, 2023: In its annual report to Congress, the Office of Financial Research highlighted the importance of its work to make the non-centrally cleared bilateral repo market more transparent.
*****
March 9, 2023: African nations could enjoy lower borrowing costs if the Liquidity and Sustainability Facility (LSF) for Africa created by the UN 16 months ago creates a mature repo market for the continent, wrote BNY Mellon which manages the settlements and service the trades.
*****
March 10, 2023: Commercial banks are vulnerable to shadow bank losses through many interconnected channels that bank regulators may be “grossly” understating, said a New York Fed staff report.
*****
March 10, 2023: When the Fed raises interest rates to combat inflation, the size of nonbank financial institutions that rely on short-term debt increases, thereby increasing the risk of runs and calling for greater vigilance by regulators, an International Monetary Fund study said.
*****
March, 10, 20232: Depositors are leaving banks for money market funds, which can pay higher interest because they’re putting that money in the Fed’s overnight reverse repo facility which is paying a higher interest rate than many commercial banks are. This loss of deposits can hurt unprepared banks, as Silicon Valley Bank found out, Reuters and MarketWatch reported.
*****
March 14, 2023: The US Securities and Exchange Commission’s proposal to require that all U.S. Treasury repos be centrally cleared could have a profound effect on the market and should be carefully studied by market participants, wrote Josh Galper with Finadium.
*****
March 15, 2023: The European repurchase market reached a record $11.1 trillion at the end of 2022, up 12.8 percent for the year, in part because of new participants in the survey, the European Repo and Collateral Council reported.
*****
March 15, 2023: Congress should scrap the $250,000 cap on FDIC-insured bank deposits, instead cover all deposits, and raise bank’s FDIC premiums to pay for it. Removing the cap would have several benefits including lessening the demand for money market funds and repo balances with Wall Street firms, which are more unstable than bank deposits, wrote Lev Menard and Morgan Ricks in the Washington Post.
*****
March 15, 2023: The Fed’s standing repo facility, where the Fed makes cash loans, is unlikely to be the focus of the current dash for cash because it has only 17 major institutions as counterparties and they are “mostly of lesser concern at the moment,” wrote Bloomberg reporters.
*****
March 19, 2023: “There is now a growing debate over uncapping deposit insurance permanently, with some worried this may add distortion to the system. But the ‘lack’ of uncapped deposit insurance is what drives the demand side of money market funds, and thus repos and commercial paper — all of which always gets rescued anyways,” tweeted Steven Kelly, senior research associate at the Yale Program on Financial Stability.
*****
March 20, 2023: Central banks in Europe, the United Kingdom, Japan, Canada, Switzerland and the U.S. have agreed to increase the frequency of some of their U.S dollar repo operations from weekly to daily to ease strains in global financial markets caused by the collapse of Credit Suisse, reported Securities Finance Times.
*****
March 20, 2023: “The repo market has always been cyclical by its nature: periods of stability and benign financing conditions tend to get followed by periods of volatility (and) disruption,” said a director of sales for electronic trading platform GLMX, in a conversation with Finadium.
*****
March 20 2023: Banks borrowed from the Fed’s discount window at record highs last week during the Silicon Valley Bank turmoil, but none borrowed from the Fed’s standing repo facility, reported Finadium’s editorial team. They said they heard this was because the firms that currently need capital are not the 17 that can use the repo facility.
*****
March 23, 2023: Many panicked bank depositors are fleeing to money market funds and the funds have parked a near-record amount of cash with the Fed’s reverse repo facility “at a return that generally beats what they could earn in the private sectors,” Reuters reported.
*****
March 27, 2023: “Repo is a major component of liquidity and collateral management” and it needs to move more to central clearing for many reasons, especially because bilateral deals are riskier and can’t handle the growing demand, reported LCH, a group of clearing houses that are part of the London Stock Exchange Group PLC which runs financial operations worldwide including the London Stock Exchange.
*****
March 28, 2023: Recent turbulence in the banking community shows how important it is for the securities financing markets – repos and securities lending – to move away from manual processing and toward a lightning-speed central network. Rising rates have an “almost unmanageable impact” on these key sources of funding and collateral, experts told Finadium.
*****
March 30, 2023: This year the Financial Stability Board will focus major effort on resolving systemic problems presented to the financial markets by non-bank financial institutions, a sector that has been growing much faster than banking since 2008, the board said. It expects to issue reports in September and further work focused specifically on money market funds in December.
*****
March 30, 2023: Vulnerabilities in nonbank financial institutions must be addresses, especially threats of fire sales and runs in money market funds and hedge-fund repo transactions, said Treasury Secretary Janet Yellen.
*****
March 2023: Over time, financial markets become more and more speculative, with a growing amount of loans used to fund investments. That leads to financial bubbles that burst and economic crises, wrote economists at Northwestern and Stanford universities.
*****
APRIL
April 3, 2023: Even safe assets like U.S. Treasuries can become fragile when investors and dealers using the Treasuries as safe investments or as collateral for repo loans fear market stability and make a dash for cash, as during the COVID scare in March 2020. This situation is getting worse as the growing market outstrips dealer capacity to absorb the trades, concluded the Office of Financial Research.
*****
April 3, 2023: Vulnerabilities in the growing shadow-bank industry will intensify as the Fed fights inflation, and they can be eased by better regulation, said an International Monetary Report blog. Problems include borrowing short term like repo to finance long term investments or boost returns, using derivatives, and the high interconnectedness among shadow and traditional banks.
*****
April 6, 2023: Standard ways of judging whether central counterparties are requiring enough collateral to avoid a panic are “almost equivalent to throwing a coin” in some ways, and “in some future scenarios, we will find these tools to be miscalibrated, inefficient, or even detrimental,” said a study by the World Federation of Exchanges.
*****
April 11, 2023: Excessive debt in China’s shadow banking sector, built on repo and certificates of deposit with traders assuming Beijing would bail them out in a panic, will limit China’s growth long-term and raises the risk of a financial crisis, said a MarketWatch review of a report from the Center for Strategic and International Studies.
*****
April 13, 2023: “Regulators need to get a handle on non-banks quickly,” wrote the editors of the Financial Times.
*****
April 17, 2023: In 1772 shadow banks profiting from funding risky, longer-dated assets using cheap short-term wholesale funding triggered a financial crisis very similar to the Lehman bankruptcy in 2008-2009. “The recent growth of non-bank financial firms may thus be viewed, not as something novel, but as the pendulum swinging back to something very old,” wrote the New York Fed’s Liberty Street Economics blog.
*****
April 17, 2023: Repo transactions recently climbed above $1.4 trillion daily, exceeding previous highs in March 2020, the Wall Street Journal reported. More than $1.3 trillion has traded each day in April. Less than $1 trillion traded on an average day last year, according to New York Fed data.
*****
April 18, 2023: The last two decades witnessed an “unprecedented” increase in shadow-bank flows to emerging markets, and that raises financial stability concerns, wrote University of North Carolina professor Anusha Chari.
*****
April 21, 2023: Silicon Valley Bank and Credit Suisse had plenty of valuable long-term securities they could have used as collateral for repo loans to offset the run on deposits, but repo loans get expensive and scarce when interest rates rise, wrote accounting professor John Zhang in The Banker. Because repos are often off-balance-sheet from shadow banks, repo withdrawal is generally invisible until it threatens a market-wide panic. One solution would be to require ongoing audits of these transactions, Zhang said.
*****
April 21, 2023: The Financial Stability Oversight Council proposed a framework for identifying potential risks to financial stability and how that risk might be mitigated. Repurchase agreements and other “payment, clearing and settlement activities” will be analyzed, the council said.
*****
April 25, 2023: The turmoil in the massive repo market in mid-September 2019 happened because of large Treasury issuances, corporate tax deadlines and a lower level of reserves, exacerbated by the market’s infamous lack of transparency, concluded the Office of Financial Research.
*****
April 25, 2023: The New York Fed said funds created just to take advantage of the Fed’s reverse repo facility will not be allowed access. It did not say what prompted the new rule. The Fed currently pays participants, mainly money market funds, 4.8% on cash repo-ed into the facility as part of the Fed’s effort to raise interest rates to fight inflation, and facility is experiencing “massive” inflows, Reuters said.
*****
April 26, 2023: Many participants oppose SEC rules proposed in September that would require many repo transactions with U.S. Treasury collateral to be centrally cleared, reported a Coalition Greenwich study. The SEC proposal was prompted by volatility in the market in recent years. Currently repo and reverse repo are cleared at about 20% and 30% respectively, the study said.
*****
April 28, 2023: Silicon Valley Bank did not have adequate access to repo funding, had not signed up for the Fed’s standing repo facility and was not prepared to get quick cash in other ways like the discount window, which were reasons the bank could not recover from the run on deposits in March, the Fed reported. Still, those measures “might not have been able to prevent the failure of the bank after the historic run,” the Fed said.
*****
April 30, 2023: Systemic risk is mostly caused when nonbanks borrow short and lend long, a transaction that should be confined to banks, Vanderbilt professor Morgan Ricks said on Twitter. Money market funds are a key example. This forces the Fed to bail them out, which leads to inflation and inequality, Ricks said.
*****
April 2023: Special bankruptcy provisions like safe harbor to protect some lenders does not make the financial system stronger, wrote a Tilburg University law professor in the Journal of Financial Regulation. Instead, it encourages lenders to lend more during a boom and flee at the early sign of trouble, forcing fire sales and creating systemic risk as in 2008.
*****
MAY
May 2, 2023: Money market funds are major investors in both repurchase agreements and Treasury bills, which are among the most important instruments of global finance, wrote analysts with the Bank for International Settlements. As a result, their investment decisions “significantly impact the pricing of the world’s safest and most liquid assets” and affect Fed actions, the analysts said.
*****
May 6, 2023: Bank turmoil is driving more commercial lending to shadow banks like the giant investment management company Blackstone, reported The New York Times. Shadow-bank opacity makes it hard to know how vulnerable they are to crises like the repo panic that brought down Long Term Capital Management in 1998.
*****
May 8, 2023: U.S. Treasury repos and securities lending are cleared and settled at least four different ways, which is fragmented, often opaque and potentially risky, said Liberty Street Economics analysts at the New York Fed. This can make it hard for participants to see and mitigate the risk, they said.
*****
May 8, 2023: With rates rising, insurance companies are relying more on non-traditional sources of funds like repo and securities lending “which offer some investors the opportunity to withdraw funds on short notice,” cautioned the Federal Reserve in its Financial Stability Report.
*****
May 8, 2023: Foreign institutions make up about half of all borrowing done through repos. Concern about their financial condition can cause runs on lenders like prime money market funds and through them spread through a broader set of borrowers that did not know they were vulnerable to foreign stress, said the Federal Reserve in its Financial Stability Report and emphasized by Financial Times editor Gillian Tett.
*****
May 10, 2023: Repo lenders seek advanced technology so they can quickly change collateral requirements when central banks change interest rates, tech executives told consulting firm Finadium.
*****
May 12, 2023: Why are non-centrally cleared bilateral repurchase agreements the largest of the four kinds of repo for primary dealers? A study by the Office of Financial Research showed that un-cleared repo is more likely to have no fee, have longer tenure and use more exotic collateral, which may be “relevant to financial stability, given the role of repo in the financial crisis of 2007-08,” the analysts said.
*****
May 12, 2023: In an article headlined “Real-time repo needed for non-stop trading,” a trading professional said always-on trading is already a feature of FX and crypto markets and “repo markets – often described as the plumbing of the financial system – have to keep up to ensure trading,” wrote Risk.net.
*****
May 15, 2023: If the U.S. defaults on its debt, repo lenders holding Treasuries as collateral will demand a different kind of collateral, potentially forcing fire sales, and that’s creating a dilemma for central clearing parties, wrote Risk.net.
*****
May 17, 2023: The Securities and Exchange Commission is proposing new rules “intended to improve the resilience and recovery and wind-down planning of covered clearing agencies,” said the Finadium editorial team.
*****
May 18, 2023: When regulators require banks to have more capital to make loans, banks lend less and need to do less borrowing, so they push deposits toward their affiliated money market funds and also cut back on their “significant” repo borrowing from MMFs, said Liberty Street Economics. MMFs then put more money in the Fed’s Overnight Reverse Repo facility, where volumes have soared from a few billion dollars in March 2021 to more than $2 trillion, Liberty Street said.
*****
May 23, 2023: The vice president of the European Central Bank warned that many shadow banks like hedge funds, asset managers, pension funds and insurers own long-term investments but let their lenders/investors withdraw funds on a daily basis without prior notice, reported the Financial Times. Meanwhile, high interconnectedness with banks raises the specter of contagious runs throughout the financial markets.
*****
May 23, 2023: European repo markets, which “sit at the intersection of multiple geographies and competing trends related to stability and volatility,” are facing significant challenges and opportunities, wrote the consultant Finadium.
*****
May 23, 2023: “While I agree that liquidity issues without solvency issues are exceptional, a key question is whether we would care as much about solvency issues if the financial system didn’t rely on so much demandable or near-demandable, uninsured funding,” tweeted economist Morgan Ricks.
*****
May 25, 2023: The repurchase market is a significant source of funding for derivatives, and the bilateral repo tendency to dry up in times of financial market volatility is a “serious concern,” said a Eurex report.
*****
May 26, 2023: Debt brinksmanship is causing regulators to increasingly worry about popular but opaque, risky trades where hedge funds borrow heavily in the bilateral repurchase market to take bets on government bonds, Bloomberg reported.
*****
May 26, 2023: A major concern if the U.S. defaults on its debt is how the giant repurchase market would react, wrote Reuters. Repos, where banks, money market funds and others use Treasury bills as collateral, are a crucial source of funding for day-to-day operations of many financial institutions worldwide and stress began to appear in May, said Curvature Securities executive Scott Skyrm.
*****
May 28, 2023: As the Fed has raised interest rates, money has fled banks for money market funds, which pay a higher rate than banks because money market funds are putting much of that money in the Fed’s generous reverse repo facility, noted the head of fixed income research at Morgan Stanley.
*****
May 2023: Non-bank financial institutions are major providers of repo funding to the largest euro banks, with about half of it being overnight transactions, “which suggests that banks may face significant rollover risk,” reported the European Central Bank.
*****
May 29, 2023: The central bank of Indonesia, which is Southeast Asia’s largest economy, plans to increase its repos with commercial banks by 30% this year because it believes repos will be less volatile during global turmoil than unsecured contracts, Reuters reported.
*****
JUNE
June 5, 2023: Interconnectedness between banks and shadow banks has spurred Canada’s top banking regulator to begin scrutinizing the country’s largest financial institutions and their exposure to risky finance at shadow banks, wrote the Financial Post.
*****
June 5, 2023: Dealers could do a lot more repo transactions if the contracts were centrally cleared, according to a Bank of England research paper reported by the Securities Finance Times.
*****
June 6, 2023: Modern shadow banks are riskier than traditional banks because they’re less regulated, they use repo to grow quickly, and repo lenders can run. They need to be regulated like traditional banks, said economics professors Markus K. Brunnermeier and Ricardo Reis in A Crash Course on Crises: Macroeconomic Concepts for Run-ups, Collapses, and Recoveries.
*****
June 8, 2023: Repo market participants in Europe oppose the mandate for repo clearing being explored by the Bank of England and the SEC, wrote editor Josh Galper at Finadium.
*****
June 8, 2023: At the core of the LDI crisis in UK pension bonds in September 2022 was the repo market, said Broadridge Financial Solutions’ executive Martin Walker. As in the Great Financial Crisis, borrowers had used repo to increase leverage by rehypothecating collateral sometimes multiple times. When collateral values fell, the market collapsed. Since GFC, lenders had to report repo transactions to UK regulators, but the regulators “seemed oblivious” to the risk.
*****
June 20, 2023: In the financial markets, securities have become more important than cash because of their growing role as collateral in a multitude of markets including repo, wrote Securities Finance Times.
*****
June 20, 2023: Risk to the financial system posed by shadow banks like investment funds or insurance companies has built up “profoundly,” warned the European Central Bank, as reported by The Business Times. Their debt is up sharply, they are financially entangled with Europe’s largest banks through deposits and repo transactions, they’re more loosely regulated than banks and they take riskier bets, an official said.
*****
June 21, 2023: Current market conditions could cause a spike in repo rates and that could be risky for hedge funds that use overnight repo funding to speculate in U.S. Treasuries, wrote a Reuters analyst. A disorderly unwind of those trades could force the Fed to intervene as it had to do in 2019 and 2020, according to the analyst.
*****
June 27, 2023: On uncleared bilateral repo, the Federal Register stated that it is still “a critical blind spot in a market that plays a key role in financial stability,” the Securities Finance Times reported.
*****
June 28, 2023: Hedge funds are borrowing heavily in the repurchase market to make the so-called basis trades that imploded spectacularly in 2020 and played a key role in the Fed’s $5 trillion-plus intervention to restore calm. Observers warn that rising rates could blow up the trades again, Bloomberg reported.
*****
June 28, 2023: The value of holdings by companies that perform triparty repo and other collateral services is $8.87 trillion worldwide, up from $6.15 trillion in 2021 and double what it was a decade ago, reported Finadium. Triparty repo was at the heart of the 2008 financial crisis.
*****
JULY
July 1, 2023: Ireland and Luxembourg are calling for tougher global rules on shadow banks, many of whom operate out of the two countries, reported the Financial Times. Regulators have allowed lightly-regulated shadow banking to double in size worldwide since the 2008 global financial crisis in spite of its transactions being at the heart of that collapse.
*****
July 8, 2023: The Fed was blindsided when Quantitative Tightening in 2019 caused the repo market to seize up and forced the Fed to forcefully intervene, Bloomberg reported that Fed Chair Jerome Powell told Congress in June. In QT the Fed reduces lending to the financial markets as it tries to back out of being the markets’ Lender of Last Resort. How much it can reduce lending in today’s unstable financial market is uncertain.
*****
July 10, 2023: Participants in the Canadian repo market are generally high credit quality counterparties using high-quality liquid securities as collateral, so the cost of borrowing is very low. But they need to revisit these practices given recent interest rate volatility, because securities often lose value in a rising rate environment, said the Investment Industry Association of Canada.
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July 10, 2023: China is seriously considering allowing non-Chinese banks to access the domestic Chinese repo market according to reports from Bloomberg and Reuters, said Josh Galper at Finadium.
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July 11, 2023: A “seismic” increase in the use of collateral in recent decades is risky, said four economists for the Bank for International Settlements. That’s because lenders rely on the strength of the collateral instead of the borrower, and it’s because if collateral value declines, borrowers have to come up with more collateral, often by selling securities and triggering destabilizing fire sales. These scenarios, mainly repo, are worsened by rehypothecation and shadow banks. “The benefits of collateral … come with unintended consequences,” they said.
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July 12, 2023: The Securities and Exchange Commission adopted a host of repo regulations designed to “improve the resilience and transparency of money market funds.” Repurchase agreements are a major investment for money market funds, along with commercial paper, government and municipal debt, certificates of deposit, and other short-term debt instruments, the SEC said.
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July 12, 2023: Hedge funds are borrowing on the repurchase market to finance a trade that poses a risk to global financial stability, especially in a rising interest rate environment, said the Bank of England as reported by Bloomberg. U.S. officials have also highlighted the risk, Bloomberg has reported. Called a basis trade, the transactions were a key problem in March 2020 when markets froze and the Fed had to intervene.
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July 12, 2023: Hedge funds can easily make money by being smart and efficient in the use of cash, collateral, securities, repo, securities lending, derivatives and financing, wrote senior consultant Lee Vincent at Finadium.
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July 12, 2023: Firms that use clients’ securities to conduct repo and other securities financing transactions should get written permission from the client, make sure the client understands that these are risky and complex practices that are hard for the average client to understand and give the revenue to the client, not the firm, said the European Securities and Markets Authority.
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July 18, 2023: A year ago so-called LDI hedging strategies popular with pension plans in the UK collapsed, forcing the Bank of England into unprecedented intervention. At the heart of the implosion was the repo market, said Bank of England analysts. Repo is often where traders borrow money to bet with, and when something like rising interest rates causes the value of the repo collateral to fall, lenders demand more security and that can spark a panic – as it did in 2008, 2019, 2020 and now 2022.
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July 19-20, 2023: Repo is being revolutionized as volume explodes, the types and number of participants soar, electronic trading interconnects and speeds their trades, kinds of collateral multiply, and market turbulence intensifies, wrote several industry representatives in the Securities Finance Times. The future of repo is a wide community of institutions, from funds to asset managers to central banks, all part of an international electronic repo ecosystem, said one report.
****
July 2023: The traditional way of estimating lending by looking at U.S. bank financial statements fails to capture the large number of loans that banks sell and that non-banks make, said analysts at Stanford, Northwestern and Columbia universities. This means experts undercount loans in low-to-mid-income areas where banks are most likely to sell the loans they make and where non-banks do more of the lending. It also means government bailouts of banks mainly benefit higher-income areas, where bank lending predominates.
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AUGUST
August 11, 2023: The French investment bank BNP Paribas was the largest dealer of non-cleared repurchase trades to U.S. mutual and exchange-traded funds at the end of the first quarter of 2023, beating British financial institution Barclays by $3.6 billion, Risk.net reported.
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August 12, 2023: “There would be no shadow banking industry without the ability to quickly liquidate repo contracts,” said Scott Skyrm in The Repo Market, page 30. “This is the heart and soul of the Repo market,” page 264.
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August 13, 2023: The Fed, traditionally the lender of last resort for banks, has also become the lender of last resort to the shadow banking system, “an underappreciated shift in the Fed’s relationship to market finance,” said Bloomberg columnist Paul J. Davies. The Fed formalized this new job with the creation of Standing Repo (2021) and Reverse Repo (2014) facilities that give primary dealers and money-market funds the kind of Fed access that banks have.
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August 14, 2023: A big talking point from the SEC, US Treasury and the Office of Financial Research is that 70% of hedge fund business in non-centrally cleared bilateral repos is done on zero margin. They view the situation as unacceptable and called for mandatory clearing of US Treasury repo. But a US Basel III Endgame notice gives thumbs up to the practice, Finadium’s Josh Galper noted.
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August 24, 2023: The collapse of financial markets financed by repos in 2008 forced a “quickly, somewhat chaotically, unheralded, and largely undesigned” restructuring that itself failed in 2000, forcing an historic and unprecedented intervention by the Fed, wrote economists Lev Menand and Joshua Younger in the Columbia Business Law Review. Solutions are proposed but “there are no easy answers.”
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August 30, 2023: Repo borrowing by hedge funds was higher in May than it was at the previous peak in 2019, probably to finance basis trades that pose a risk to financial stability and warrant diligent monitoring, said a Federal Reserve report. Similar trading likely forced Federal Reserve intervention in March 2020 and is reminiscence of hedge fund trades that destroyed Long-Term Capital Management and forced an industry bailout in 1998.
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SEPTEMBER
September 6, 2023: A key focus for the international Financial Stability Board this year has been non-bank use of derivatives and repo markets and that will continue in 2024 because four instances of market turmoil in 2020-2022, plus interviews with market participants, suggest non-bank use of derivatives and repo can be a significant source of systemic risk, said the board, which includes top finance ministers, central bankers and regulators.
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September 7, 2023: The Federal Reserve, Financial Stability Board, economist Darrell Duffie and Columbia Law School academics are warning that hedge funds, repo and derivatives are making financial markets more vulnerable to a crisis than in 2020, when the Fed had to launch a record bailout, and chances for reform before another shock hits are slim, wrote Financial Times’ U.S. editor Gillian Tett.
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September 13, 2023: Traders are not prepared for the central clearing of repos that the SEC proposed last year, according to a study by DTCC. the only existing central counterparty for repo transactions with U.S. Treasury securities as collateral.
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September 14, 2023: We need to return banks to the public utilities they used to be before the recent 40 years of deregulation allowed all financial businesses to play banker, creating such dangerous financial markets that only periodic Federal Reserve bailouts prevent economic disaster, wrote law professors Lev Menand and Morgan Ricks.
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September 18, 2023: “The Bank for International Settlements issued its quarterly review, and repo market functioning was a key point of discussion both in the overview, which issued a warning on signals flaring up indicating future dysfunction, as well as a special feature that scrutinized what happened during US banking stresses earlier this year,” wrote consultant Finadium for its subscribers.
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September 19, 2023: Distributed ledger technology – examples are blockchain and bitcoin – are expanding in the capital markets, consultant Finadium reported. “Distributed ledger technology is transforming global repo market infrastructure,” said an executive with Fintech expert Broadridge.
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September 21, 2023: Financial market troubles in 2014, 2019 and 2020 revealed that traders who buy and trade U.S. Treasuries are vulnerable to crisis, and further understanding is especially needed in the uncleared bilateral repo market which is opaque, a New York Fed executive told industry professionals. An average of $4 trillion in Treasuries are outstanding in the repo market and the New York Fed is conducting roughly $1.2 trillion in average daily repos with Treasuries as collateral, she said.
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September 22, 2023: “… wherever you have leverage in the financial system, and wherever you have products that impose margin calls on users, you have a particular sort of risk … (that) can quickly become systemically horrible,” wrote Financial Times columnist Katie Martin. She was writing about the LDI crisis last year, but she could have been writing about almost every financial crisis since at least 1998.
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September 25, 2023: Pensions borrowed heavily on the repurchase market to do their LDI trades that blew up and required central bank intervention last year, and this year hedge funds are borrowing heavily on the repurchase market to do basis trades that are flashing red warnings, wrote the Financial Times. Traders don’t worry because they know central banks are implicitly backstopping this speculative trading, analysts warned.
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September 26, 2023: Money market funds for stablecoins are pouring into parts of the repurchase market and risk destabilizing it, strategists for JP Morgan Chase & Co. warned clients, according to a Bloomberg report.
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September 28, 2023: Systems dominated by large banks are more likely to experience financial crises and have more severe economic outcomes, wrote economic scholars from New York, Paris and Frankfurt.
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September 29, 2023: The Fed’s 1950s support for broker-dealers to use repo to buy Treasuries and finance the federal debt can be seen as a root cause of the 2008 financial crisis, wrote law professors Lev Menand and Joshua Younger. Forced further into the shadows after 2008, Treasury markets erupted even more forcefully in 2000. Trading Treasuries should probably be done by banks, not non-banks, but making that change would be an “extraordinary challenge.”
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OCTOBER
October 2, 2023: In the current rising rate environment, banks better stop thinking they can always raise money by using the securities they own as collateral for a repo loan, experts agreed at a recent webinar hosted by Risk.net. It’s too dangerous.
*****
October 3, 2023: Traders are increasingly using overnight rather than longer-term repo to buy Treasuries for their basis trades, and that could be the trade’s most vulnerable point, reported risk.net.
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October 5, 2023: UK regulators are warning financial firms that they’re finding a number of shortcomings in the firms’ repo operations that should be remediated.
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October 10, 2023, Roberto Perli, who manages the Fed’s system for controlling interest rates and the Fed’s balance sheet levels, said he’s confident the Fed can fight inflation and reduce the Fed’s balance sheet in today’s unpredictable financial environment “without significant disruptions to short-term funding markets.”
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October 11, 2023: After the 2008 financial crisis, every aspect of financial markets was re-regulated except “the global market for repurchase agreements, which was largely left untouched,” but that’s starting to change, said the Finadium editorial team.
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October 12, 2023: Panelists at a securities finance conference argued that the SEC’s proposal last year to require that most repo transactions involving U.S. Treasuries be centrally cleared would help stabilize the unpredictable market but would also raise costs and will be too expensive. Implementation could be imminent, Securities Finance Times reported.
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October 12, 2023: “Repo reform is a $2tn mystery wrapped in an enigma of dodgy data,” read the Financial Times headline.
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October 12, 2023: Financial players in the repo market have no idea how the market would be affected by the SEC’s plan to require most repo transactions involving U.S. Treasuries to be centrally cleared by the end of this year, even though they’ve had a year to study it, they told the Fixed Income Clearing Corporation which will do the clearing. In fact, many said they don’t even know how the FICC works now, the Financial Times reported.
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October 12, 2023: Overnight repo, discovered in 2008 to be dangerously vulnerable to lenders who suddenly refused to renew, lasts too long for some. So BNY Mellon is introducing same-day repo with terms set by the minute, wrote a BYN Mellon executive in Securities Finance Times.
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October 13, 2023: Securities lending, a cousin to repo, caused big losses in the 2008 financial crisis, perhaps most notably at AIG, and 13 years after the Dodd-Frank Act mandated the SEC to make the opaque market more transparent, it finally proposed a rule requiring that some players report some information to a trade association that would make some of the information public.
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October 13, 2023: The Federal Reserve has made it clear it’s willing to inject billions of dollars into the overnight repo market when traders are suddenly caught short of cash, a Clearwater Analytics analyst told Global Investor Group clients.
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October 13, 2023: Under the new SEC requirement, lenders have to report their securities lending transactions by the end of the day, which will provide regulators with more transparency into that market, as required by the Dodd-Frank Act, but the public portion is too restricted to be helpful to the public, wrote Finadium editor Josh Galper. Repos are not included.
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October 19, 2023: SEC Chair Gary Gensler said the repo transactions that prime brokerage firms are doing with some hedge funds, especially to finance so-called basis trades, is the biggest source of risk in the financial system, Bloomberg reported. Gensler joins the Financial Stability Oversight Council and the FDIC in warning recently about these deals.
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October 19, 2023: The SEC proposal that repos with U.S. Treasuries as collateral have to be centrally cleared could raise costs for participants but improve stability, a State Street managing director told Finadium. “There’s a lack of transparency in the repo market today … there’s major issues around the repo market during (stress events)… If you think about what the exponential risk is today in a major event, you could arguably be much better off ….” he said.
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October 19, 2023: Federal Reserve Bank of Dallas President Lorie Logan pointed to the Fed’s Standing Repo Facility and its reserve repo facility as key ingredients in market stability as the Fed fights inflation, Reuters reported.
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October 22, 2023: Much of money market fund assets are now invested in short-term repo and T-bills, reported the editor of Risky Finance, which worries some who remember 2008. But a new SEC rule that requires funds to charge a fee if investors try to withdraw more than 5% of a fund’s assets could prevent fire sales and 2008-style financial chaos, he said.
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October 23, 2023: The Bank of England is working on setting up a repo facility similar to the Fed’s reverse repo facility, reported Risk.net, another sign that regulators are concerned about repo’s threat to financial markets and are forced to stand behind it.
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October 24, 2023: The Bank of Israel said it’s starting a repo program that accommodates government and corporate bonds as collateral to stabilize financial markets during the ongoing Israeli-Gaza conflict, Finadium reported.
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October 26, 2023: “The repo market’s dynamic has gone from docile to volatile and there’s a greater need to understand its interconnection to other products and markets,” wrote reporter Anna Reitman at Finadium, as rising interest rates threaten to destabilize the market.
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October 30, 2023: The SEC’s proposed rule to require central clearing for repo transactions collateralized with U.S. Treasury securities is expected to be implemented soon and could have a “seismic” effect on the financial markets, Reuters reported.
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October 31, 2023: “Banking law can’t cohere, and financial stability policy can’t succeed, without a functional definition of ‘deposit.’ Congress should enact one,” tweeted Vanderbilt professor Morgan Ricks.
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NOVEMBER
November 2023: No one in the industry expects central clearing to become the dominant way to clear securities finance, said a Finadium study.
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November 2, 2023: The volume of repo trades originated by algorithms or other electronic systems is at least 50% and continues to grow, said a Tradeweb executive at Finadium’s Rates & Repo North America event in New York.
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November 3, 2023: Panic in the financial markets happens when repo lenders refuse to roll over their overnight repo loans, forcing borrowers into fire sales of securities to raise money to repay the repo loans, said a contributor to RealClearMarkets. The solution, he said, is for the Federal Reserve to make sure there’s no shortage of dollars in the markets.
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November 3, 2023: Finally responding to the 2010 Dodd-Frank Act, the Financial Stability Oversight Council issued its framework for dealing with threats to financial stability in a 11,557-word document that repeatedly zeroes in on the repo market but only says the words “repurchase agreement” or “repo” once.
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November 4, 2023: “Repo markets are one of the largest sources of funding and risk transformation in the U.S. financial system” but repo rates have become unstable and speculators are increasingly replacing them with interest-rate-swap derivatives, wrote Phenomenal World. Does the Fed understand this, they ask.
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November 6, 2023: Regulators overseeing the struggling market that trades U.S. Treasury securities announced several new rules to help it stabilize, including requiring more public information about the activity of money market funds in the repo market and about the terms of securities lending transactions.
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November 7, 2023: “We’re effectively changing the plumbing for the world’s most significant financial assets,” Eric Litvack, chair of the International Swaps and Derivatives Association, told Reuters, about the SEC’s imminent rule to require that repo collateralized with Treasury securities be centrally cleared.
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November 7, 2023: “Repurchase agreement markets are a massive, but rarely noted, aspect of the financial system. In simple terms, repurchase agreements (repos) function like a pawnshop. …. repo markets are like the plumbing of the global financial system: safely ignored unless something blocks up the system,” described an S&P Global report.
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November 9, 2023: “Real-time repo” and 24/7 collateral markets are starting to seem possible because of distributed ledger technology and blockchain products, wrote consultancy Finadium.
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November 9, 2023: It’s critical for regulators to be able to see how interconnected banks are through financial transactions, but “supervisory authorities do not have the resources to ensure that all large exposures at all reporting banks are comprehensively controlled,” reported the Financial Stability Institute.
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November 10, 2023: Australia, China, France and the Netherlands have studied the key roles that insurance companies play in society, but only the Netherlands studied the role of insurers as counterparty in derivatives, repo and securities lending markets, said a Financial Stability Board report.
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November 13, 2023: A recent ransomware attack on the Industrial and Commercial Bank of China caused massive delay of delivery of collateral in repo transactions worldwide and showed repo’s vulnerability to cyber attacks, Reuters reported. Treasury repos are “essential to the plumbing of global finance” and the hack adds to worries most recently triggered by the March 2020 upheaval, Reuters said.
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November 15, 2023: Criminals are increasingly committing online fraud, which is a growing risk to bank soundness and financial stability, reported the Basel Committee on Banking Supervision.
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November 15, 2023: A post-2008 regulation that requires owners of the largest banks to have more at risk when the bank lends, called the enhanced supplementary leverage ratio, was a reason the repo market threatened to freeze in March 2020, forcing the Fed to launch a massive intervention, said Fed governor Michelle W Bowman.
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November 15, 2023: UBS Global and partners completed their first digital repo transaction using blockchain technology and HSBC has begun using a distributed ledger platform to conduct repo transactions, said Securities Finance Times.
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November 15, 2023: Current systems cannot handle the huge and growing volume of collateral that a “broad swathe” of financial services firms need to move, and some participants think fintech is the inevitable solution, reported Finadium.
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November 16, 2023: Unwinding of huge repo borrowing by a handful of large hedge funds contributed to the repo upheaval in March 2020 and “all of us need to better understand this activity,” especially the non-centrally cleared bilateral repo market, “where much of this activity takes place,” said the Fed’s vice chair for supervision Michael S. Barr.
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November 16, 2023: Much of the “dash-for-cash” in March 2020 involved repo transactions with Treasury collateral, and that market is still so opaque that it’s hard to analyze, said Michelle Neal, Head of the Federal Reserve’s Markets Group.
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November 16, 2023: The Office of Financial Research hopes to publish early next year a final rule on its 2022 proposal to start collecting data on the non-centrally cleared bilateral repo market, which is one of the largest remaining data gaps for financial market analysis, said Nellie Liang, the Treasury Dept.’s under-secretary for domestic finance.
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November 17, 2023: The use of collateral to “insure” derivative and repo contracts has soared since 2008, even though collateral failure caused that crisis, two economists told the Financial Stability Conference. Collateral now is more likely to be public securities like Treasuries than private collateral like mortgages, but a stable economy encourages the use of riskier private collateral, they said. “In short … economic stability plants the seeds of its own instability.”
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November 21, 2023: Many hedge funds trading in repo markets do not have to post any collateral, “meaning they are fueling activity using enormous amounts of cheap debt,” Reuters reported. This makes regulators worry that some sudden stress on financial markets could cause repo lenders to call the loans and force repo borrowers into fire sales to get the money.
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November 21, 2023: Bailouts by central banks since 2008 have been aimed at stabilizing the banking system, but some observers warn that they increase risk for central banks, encourage moral hazard and keep wasteful and “zombie” firms afloat. It’s a trade-off central banks make that can also reduce losses and support growth, said two central bank economists in the Journal of Financial Crises.
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November 21, 2023: The bank failures in March 2023 show that the speed of runs on banks in the electronic age, where traders can “move millions of dollars with a few clicks of a button,” is “a complete game changer,” said Citigroup’s CEO.
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November 23, 2023: Central clearing for repo, “where a (hopefully) super safe clearing house sits between buyers and sellers and settles trades, rather than everyone facing each other,” is probably a good idea but it could be expensive and have “humongous” impact, said Alphaville, a Financial Times column.
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November 24, 2023: The repo market “has seen better days in terms of size and liquidity,” according to a report from analysts at ING. They recommend the Fed tread carefully in 2024.
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November 24, 2023: Repo has been booming internationally since 2015, up nearly 20 per cent a year, “which is what we saw prior to the global financial crisis,” Richard Comotto of the London Reporting House told the Securities Finance Technology Symposium in London.
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November 24, 2023: Sponsored repo has become a large part of the market and continues to grow in the U.S., but it doesn’t seem to be as popular in Europe or the UK, a State Street executive told the Securities Finance Technology Symposium in London. In sponsored repo, dealers sponsor non-dealer participants including hedge funds onto a central clearing platform.
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November 28, 2023: Firms that put up the cash in repo transactions, the so-called buy-side firms, prefer bilateral repo to central clearing for repo trades, Risk.net reported.
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DECEMBER
December 1, 2023: The bank failures in March showed that repo markets aren’t always a viable financing channel for banks that suddenly experience a run and need quick funding, said Fed vice chair for supervision Michael Barr.
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December 4, 2023: Centrally cleared repo is highly concentrated in the world’s eight largest central counterparties, which support financial stability but also may be vulnerable to fire sales and systemic risk, said a report by the Bank for International Settlements.
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December 4, 2023: Central clearinghouses were a key objective of regulators after the 2008 crisis, but they can make financial stress worse, said researchers from the Bank for International Settlements. If they call for more collateral, this can trigger destabilizing fire sales as traders dump securities to raise money. Also, clearinghouses can use clients’ collateral both as backing for a trade and as the asset behind a derivatives transaction, creating systemic risk.
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December 4, 2023: The Liquidity and Sustainability Facility, created in 2021 by the United Nations to bring a well-developed repo market to the African continent to help improve African economic prosperity, announced a $100 million repo transaction with the Abu Dhabi Investment Authority, Securities Finance Times reported.
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December 5, 2023: Soaring repo rates started showing up Nov. 30 and continued into December, “drawing unsettling comparisons with turmoil that rocked the space more than four years ago,” when the Fed suddenly had to start buying repos to stabilize the market, Bloomberg reported. It “provides a pointed reminder of the outsize, and underappreciated, role that repos play in the smooth functioning of the global capital markets, as well as all that could go wrong.”
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December 6, 2023: Sponsored repo, where banks avoid regulation (and mask potential problems) by sponsoring money market and hedge funds in cleared repo transactions, has exploded in volume and may be implicated in the repo rate surge last week, Bloomberg reported. The Fed’s new Standing Repo Facility may help, but the surge suggests that “more than a decade after playing a starring role in the 2008 financial crisis, repo can still be potential source of instability.”
*****
December 6, 2023: The repo rate surge last week, and the possible involvement of sponsored repo, is reminiscent of a similar “madness” in 2019 which strategist Zoltan Pozsar called “a dangerous situation,” reported Tracy Alloway for Bloomberg.
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December 6, 2023: The Office of Financial Research said it expects to publish a Final Rule and begin data collection in early 2024 on its January proposal to establish an ongoing, daily data collection of non-centrally cleared transactions in the U.S. repo market. This will “close the remaining critical gap in regulators’ information on the repo market,” and that’s important because “a stable, well-functioning repo market is critical to U.S. financial stability,” the office said.
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December 6, 2023: Money market funds account for more than 47% of the lending in repo markets, potentially creating stress because money market fund shares are redeemable on demand and investor withdrawal could trigger a crisis in repo funding, the Office of Financial Research reported. For example, money market funds make repo loans to primary dealers, who are subsidiaries of commercial banks, and dealers pass that money on to riskier institutions like hedge funds, the office said in its 2023 annual report.
December 6, 2023: Repo markets functioned effectively in 2023, but it’s important to note that “there may be unseen financial stability risks building up in the economy that are not easy to anticipate and that are invisible to policymakers and regulators,” the Office of Financial Research said. The vast majority of repos are being issued in the non-centrally cleared bilateral repurchase market, where no regulator currently collects data, the office said.
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December 6, 2023: Since the 2008 financial crisis, traders increasingly use central clearinghouses for their transactions, which could magnify a market crisis. The Office of Financial Research said it has developed a way to assess the financial strength of central clearinghouses in the U.S. and abroad.
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December 6, 2023: In its annual financial stability report, the Bank of England found significant vulnerabilities in market-based finance, where participants including money market funds, open-ended funds, hedge funds and other non-bank financial institutions borrow and lend short term for long-term trades that make the market vulnerable to sudden lender withdrawal and devastating fire sales.
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December 8, 2023: If interest rates fall next year, hedge funds will have to unwind their basis trades that use repo loans to bet U.S. Treasury rates will rise, “an unwind that regulators have warned could pose severe financial stability risks,” warned Reuters columnist Jamie McGeever.
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December 13, 2023: The SEC adopted final rules requiring central clearing of US Treasury repos by June 30, 2026. “The $26 trillion Treasury market — the deepest, most liquid market in the world — is the base upon which so much of our capital markets are built,” said SEC Chair Gary Gensler. “I am pleased to support these rules because they will help to make the Treasury market more efficient, competitive, and resilient.”
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December 13, 2023: The new SEC rule requiring central clearing for US Treasury repo includes hedge funds, which “could bolster oversight of highly leveraged strategies such as the so-called basis trade — which use the repo market and that US officials say can pose broad dangers,” said Bloomberg.
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December 13, 2023: In its decision to require central clearing of US Treasury repo, the SEC “hasn’t looked into expected results all that well so far,” and the new rule has unintended consequences, including unintentionally locking out some international banks and their dealer affiliates, wrote Josh Galper at Finadium.
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December 13, 2023: SEC commissioner Hester Pierce said she cannot support the new SEC law to require central clearing for U.S. Treasury repos because it commits the market “to what may be a reckless ride down the path … with no brakes or off-ramps in the event the market takes a bad turn.” Fearing the sudden change will disrupt the market, she said she prefers a “more incremental” approach.
*****
December 14, 2023: The Federal Reserve has added the New York branch of the Japanese Norinchukin Bank to the list of counterparties that can use the Fed’s new Standing Repo Facility, “a permanent $500 billion bailout facility” that the Fed created in 2021 when it decided to become lender of last resort to Wall Street trading houses and banks without congressional approval, wrote Wall Street on Parade.
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December 14, 2023: The new SEC rule requiring central clearing for US Treasury repo “is bringing about a seismic change to the behemoth that is the US Treasury market,” one observer told the Finadium Editorial Team. It has benefits of transparency and market stability, but it will raise costs and create confusion and unknowns, participants said.
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December 15, 2023: A key repo rate suddenly hit an all-time high in early December, reminding watchers of a similar spike during COIVD that forced the Fed to inject roughly $4.6 trillion to keep financial markets dependent on repo plumbing from freezing, Bloomberg reported. This month the Fed’s efforts to withdraw that “wall of money” threatened another rate spike.
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December 18, 2023: Zoltan Pozsar, famous for profiling the plumbing that failed in 2008, said today’s plumbing is “much cleaner and much better regulated …. You have more capital, less leverage, and more stable funding.” In the COVID crisis, “not a single bank failed in the world.” The fix in a market freeze is for the Fed to quickly become the “dealer of last resort” to get money flowing again, he said.
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December 18, 2023: In coming years the repurchase market, growing 11.5% a year, will undergo major modernization and change, wrote The Banker. By June 2026 repo collateralized by U.S. Treasury securities has to be centrally cleared, a landmark change for a market that has traditionally been built on relationships and conducted personally. At the same time it’s facing a demand for automation, a tricky transition for complicated transactions.
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December 20, 2023: The European Repo and Collateral Council reported that this year the European repo market grew 11.5% to $13.7 trillion, based on data from 62 participants, not including central banks.
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December 20, 2023: A surge in repo rates at the start of December reminded observers of September 2019 when the Fed had to flood markets with billions of dollars to avoid a crash of worldwide financial markets, said the Financial Times. It signals that the market may not have enough money to buy the flood of U.S. Treasuries coming into the market in 2024, experts said.
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December 25, 2023: The Fed’s reverse repo and standing repo facilities don’t solve potential problems. If we have a forced sale of collateral, we still have problems. Fundamentally what we need to do is stop Too Big To Fail. We need a Glass- Steagall, economist Carolyn Sissoko said on the Forward Guidance podcast.
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December 27, 2023: The Fed’s Standing Repo Facility, created in 2021 to lend to primary dealers and banks when they need cash, could soon see action, wrote Reuters and Bloomberg. As the Fed withdraws funds from the financial markets, traders have begun taking their repo loans out of the Fed’s Reverse Repo Facility, and soon they’ll need to borrow instead – not a sign of stress but a sign that the Fed’s dual repo backups are working as intended, officials said.
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December 27, 2023: Repo markets have started to see some year-end volatility for the first time in five years, the Wall Street Journal reported. That’s probably because the Fed has been shrinking the money supply, the journal reported.
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RepoWatch 