- Market volatility complicates year-end rush for cash and collateral
- Money markets signal that placing or securing cash will be expensive
- German financial agency and ECB to increase bond lending
- Borrowing repossessed German debt expected to be more expensive than last year – analysts
Nov 14 (Reuters) – As the most volatile period in years for traders draws to a close, the year-end race for cash and high-quality assets is likely to prove tougher than usual in markets rocked by decades-high inflation and an aggressive central. increase in bank rates.
The approach to year-end typically sees strong demand to place or obtain cash as financial institutions seek to strengthen their balance sheets, rebalance their portfolios and transfer funds to close out the year.
But this year, with US market volatility gauges back to levels seen at the height of the COVID-19 pandemic (.MOVEMENT) and an uncertain economic outlook, it is more difficult than normal for banks to take risks on their balance sheets.
Money markets also suggest that securing the cash and quality assets investors need to make a smooth transition to 2023 will be expensive.
“When you look at all three quarters end this year and compare them to previous years, each one was significantly more expensive than in the past,” said Michael Leister, head of interest rate strategy at Commerzbank.
German buy-back deals — where investors borrow collateral, usually government bonds, in exchange for cash — have implied rates of around minus 10% for the end of the year, International Capital said. Market Association in a letter at the end of October calling on the European Central Bank to act.
These deeply negative repo rates, which compare to minus 4.5% as of December 31 last year according to CME Group, reflect the high cost of borrowing German bonds as a shortage of collateral plagues bond markets. of the euro area. The ECB’s bond purchases left a tiny fraction of German debt available for asset managers.
The head of Germany’s debt agency, Tammo Diemer, said last month that year-end forward repo rates were showing strong demand as early as August, due to investors posting record levels of guarantees in clearing houses against potential losses.
A similar collateral shortage in Britain is keeping repo rates well below the 3% key rate and could lead the Bank of England to intervene, according to NatWest Markets.
In the United States, the premium on year-end interbank borrowing, measured by the difference between the so-called FRA-OIS spreads for December and March, was much higher throughout the year than the average levels observed over the past five years, BofA noted in October.
In currency swaps, where investors swap euros, yen and Swiss francs for US dollars, the relative premium to get dollars has widened to the highest since the peak of the COVID-19 pandemic in March. 2020 at the end of September, when they started to take into account at the end of the year.
That premium is rising sharply every year through the end of September, but the magnitude of this year’s move in the euro-dollar swap was the largest since 2008, according to ICAP data.
“It’s a sign that the demand for dollar financing at the end of the year is really strong and probably stronger than in previous years, at least compared to the market’s ability to meet this demand,” said Antoine Bouvet. , Senior Rates Strategist at ING.
The premium fell sharply, also after surprise U.S. inflation data on Thursday prompted a rethink of bets on the Federal Reserve’s rate hike. But analysts noted that the end of the year is still a month and a half away and that the gap tends to widen in late November as demand for cash increases.
The risk is all unexpected news as liquidity dwindles further in December, forcing investors to reconsider their positioning.
“You have to be more careful about positioning to carry over into the new year, even more so than in previous years,” said Dalibor Jarnevic, head of government bond trading at DZ Bank.
Jarnevic noted that the December 15 ECB meeting, a day after the Fed, poses a particular risk if it surprises markets.
“Normally until then…the investor base has already done its basic positioning through to the end of the year and trading volumes already tend to be very low,” he said. declared. “It could cause people to accept prices that they are not used to in the government market.”
September’s UK fiscal turmoil highlighted how a shock event occurring when liquidity is already low can destabilize a market.
Policy makers are aware of the risks.
The German debt agency recently increased its own bonds by 54 billion euros to lend to investors in the repo market. The ECB on Thursday increased the bonds it lends against cash by 100 billion euros.
Analysts said the moves would ease year-end pressure, but noted potential constraints. The end of 2021 still saw significant pressure even after the intervention of the two institutions.
BofA said it now saw the German year-end repo 6 percentage points below the overnight rate, which it said would still make it the most expensive on record for investors borrowing bonds. at the time. The overnight rate is currently at 1.4%.
“It’s still early days, but (last year’s repo price) would probably already be the best case in terms of year-end pricing,” Commerzbank’s Leister said.
Reporting by Yoruk Bahceli; edited by Dhara Ranasinghe and Emelia Sithole-Matarise
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