Gingerly withdrawing liquidity

January 15, 2020

–Today is the US/China Phase 1 signing.  It’s also settlement day for last week’s auctions and a tax date, but there appears to be plenty of liquidity.  Yesterday afternoon the Fed released the Jan/Feb repo schedule, which shows a modest $5 billion decline in 2-week term repos starting in February (down to $30 billion each).  https://www.newyorkfed.org/markets/domestic-market-operations/monetary-policy-implementation/repo-reverse-repo-agreements/repurchase-agreement-operational-details

–It was reported that the Fed is considering lending repo directly to hedge funds.  A separate article said UBS is looking for three Fed cuts in 2020.  Did the entire world legalize recreational weed at the start of the year?  I thought it was just Illinois.  

–It seems that massive US gov’t borrowing has increased the size of the bond market being financed with repo.  The decline in global trade has led to diminished buying by foreign central banks, so leveraged domestic buyers have filled the gap.  Borrow short, lend long.  It’s fine in moderate size as long as the curve remains positive.  Maybe that’s why the Fed is so intent on creating inflation, and is so sensitive to removing liquidity.  As a hedge fund mgr quoted in WSJ said, “The system cannot work without leverage, but a system with too much leverage is unstable.”  

–The curve flattened yesterday.  On the euro$ curve, spreads from reds back flattened to new lows for 2020.  Reds/greens down nearly 1 bp to 4.625 bps, reds to golds down 1.25 to 23.375.  The ten year yield eased 2.8 bps to 1.816%, with 2/10 at 24 bps.  CPI released yesterday showed YOY Core +2.3%.  The NY Fed released its Underlying Inflation Gauge, with the “full data set” at 2.4% up 1/10th from the previous month.  Today Core PPI yoy expected 1.3% and Empire State 3.6 from 3.5.

Posted on January 15, 2020 at 5:27 am by alexmanzara · Permalink
In: Eurodollar Options

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