Why The LTRO Is Not A "Risk On" Catalyst

Tyler Durden's picture

Over the past month, much has been said about the recent 3 year LTRO, and its function in stabilizing the European bond market. Certainly it has succeeded in causing an unprecedented steepening in European sovereign 2s10s curves across the periphery (well, except for Greece, and recently, Portugal) as by implication the ECB has made it clear that debt with a sub-3 year maturity is virtually risk free, inasmuch at least as the ECB is a credible central bank (and if it is perceived as no longer being one, there will be far bigger issues), along the lines of what the Fed's promise to keep ZIRP through the end of 2013, and today's likely extension announcement through 2014. Yet does filling a much needed for European stability fixed income "black hole" equate to a catalyst for Risk On? Hardly, because as in a new note today Brockhouse Cooper analysts Pierre Lapointe and Alex Bellefleur explains, the LTRO is "not a catalyst for a risk-on rally as the central bank is substituting itself for funding sources that have “dried up.” Sure enough - all the ECB is doing is preserving existing leverage (especially in light of ongoing bank deleveraging), not providing incremental debt, something which could only be done in the context of unsterilized bond monetization ala QE in the US. So just over a month in, what does the LTRO really mean for Europe (especially as we approach the next 3 Year LTRO issuance on February 29)? Here is Brockhouse's explanation.

Via Bloomberg:

  • The 3-yr LTRO is not a catalyst for a risk-on rally as the central bank is substituting itself for funding sources that have “dried up"
  • "This is a key difference that implies that the current collateral shortage will continue"
  • Collateral shortage negative for velocity of collateral, velocity of money, “not exactly a catalyst for a rally"
  • Not all LTRO funding is “parked” in short-term peripheral debt as ECB overnight lending touched record EU528b Jan. 17
  • "The stigma associated with borrowing from the ECB is visibly gone, but the stigma associated with holding peripheral debt remains present"
  • Post-LTRO, developments in peripheral sovereign bond markets are driven more by solvency factors than liquidity factors
  • "The desire to de-risk European bank balance sheets will continue to prevail and the need for higher capital requirements will continue to constrain leverage"

And that's the main difference between the European "easing" and that of the Fed: in Europe the ECB's balance sheet is merely filling the leverage void created by the recent mauling of European banks and the fact that nearly €500 billion is still parked with the ECB: hardly an indicator of confidence in the system. In the US, QE1 and QE2, were not only substantial, they provided incremental liquidity into the system, which then spilled over into risk assets.

The question the becomes: what happens to the capital lent out at the next LTRO? Unfortunately, as the bulk of it will go to prop up European bank capital in anticipation of a Greek, and potentially Portuguese - its 10 year just hit a new record, default (controlled or otherwise), it is more than likely that while the market may front run it once again, the final outcome will be even more frozen cash which does nothing to actually benefit from the carry trade, or to pump risk assets.

The bottom line is that with an ECB constrained from unsterilized monetary intervention, any and all generous liquidity injections will have to come from the Fed. Which, however, will likely not be in a position to do much if anything today courtesy of a market which has front run itself precisely expecting this event, as well as believing, falsely as it turns out, that the massive ECB balance sheet expansion was actually beneficial for Risk On, when all it has succeeded in doing is mitigating the Risk Off phase.

Comment viewing options

Select your preferred way to display the comments and click "Save settings" to activate your changes.
oogs66's picture

banks already have the "carry trade" on...this is just financing so they don't fail right away and can delever slightly more slowly

francis_sawyer's picture

This is why greed is as powerful as fear...

The second that the priest hands you money to pay off the loan shark, instead of working it off in the church you're back at the OTB window trying to bum $2 off someone to put on a nag in the 6th race...

johnu1978's picture

This begs the question, when exactly will the financial system collapse?



WonderDawg's picture

This isn't the only thing that begs that question, it's been bounced around for several years now. If you stumble upon the answer, please share it here.

HD's picture

LTRO is nothing more than changing the bandages on a massive festering wound.

lex228's picture

ECB QE just around the corner


He_Who Carried The Sun's picture

You'll miss making a lot of money. Stocks have picked up more than 40% since last Fall's bottom.

LTRO's = risk off? Nonsense, quite on the contrary, they have stabilised the system successfully albeit at the cost of the Euro which will further decline after Feb.3 round of LTRO's, which will be very good for Europe's locomotive, Germany, so shorting the EUR/USD will be ON again after the recent massive short squeeze and on top of all Banks started lending again, so, this is like 2009 = miss it at your own peril.... ;-)


Good skiing and loads of snow in Davos. ;-)

Everybodys All American's picture

The market is suggesting there will not be QE. We shall see ...

Quinvarius's picture

QE can only accelerate.  But it will not be discussed.  This is the same reason the Fed is manipulating treasuries to flatten the yield curve.  They need to print, but they want to send the market signals like they are not printing.  Basicly, they are creating the worst possible holocaust.  Recession plus hyperinflation.  Get physical gold and leave the game.

francis_sawyer's picture

I'll gladly pay you in March for the hamburger you gave me in October...

Irish66's picture

I'd love to be a fly on the wall at Davos

stocktivity's picture

Why?  It's all bull Shit!

Jefferson's picture

In other words, LTRO keeps the risk on the banks' and the ECB's balance sheets while QE would put the risk solely on the ECB's balance sheet.

chinaguy's picture

Yeah, but if the ECB has increased the size of it's book by $1 Trillion in the past 6 months...it's "risk on" no matter how you want to parse the variously lettered interventions.

GeneMarchbanks's picture

'The bottom line is that with an ECB constrained from unsterilized monetary intervention, any and all generous liquidity injections will have to come from the Fed.'

I wonder if that'll be a topic at the Jacksonville debates...

SeverinSlade's picture

I don't know what you just said.  I'm still PUMPED about Obuma's SOTU!!!  AND THE NAVY SEALS RESCUED AN AMERICAN!  YAYYYY!  GO AMERICA!  FUCK YEAHHHH!

Dammit, [/sarc] was jammed on again.

Turgid_Member's picture

I'm with you bro.  I too, am a patriot of the highest order.
Still got the map of Kuwait tatooed on my forehead from
Desert Storm. Oh the glory that was.  Excuse me - I'm
tearing up a little.
Its about time we pick a new country and start another war
and cause enormous untold suffering on its population.
And it definitely will be untold because our patriotic press
won't report a thing about it.  Instead they will parrot
how we are building new roads and schools and hospitals even
though we aren't.  (although they will award many many contracts
for such)

Money never sleeps's picture

Word on the street is that Trichet is behind this firm: www.armadamarkets.com

LawsofPhysics's picture

Interesting, according to your chart, the debt was ten trillion when Obama took office.  So that means Bush took us from a surplus to a debt of ten trillion?  Thanks for re-affirming the "two party LIE".  Ron Paul, 2012.

Just out of curiosity, you plan on copy and pasting this on every thread today, shill?

WonderDawg's picture

Don't forget, he's a fucknut, too ;-)

Saro's picture

Not that I think either of the parties is better, but when you say "took us from a surplus to a debt of ten trillion" you are comparing apples and oranges.

The "surplus" was a yearly surplus in government revenue, driven by the dot-com bubble.  We still had a huge pile of debt before and during, and that yearly surplus evaporated quite quickly when the market tanked and tax revenues crashed.

It wasn't that Clinton was a responsible budget-maker; he was just lucky enough to preside over a huge increase in government revenue that made up the yearly deficit.

LawsofPhysics's picture

Wake up dude, at least there was real revenue.  Seems like the more people want government services and protection (a.k.a.-military) the less likely they are to want to pay for it.

Eally Ucked's picture

Whatever LTRO is officially is not so important, to me it looks like it's compensation to the banks for keeping sovereign debt on their books. If banks can only make .5% on those funds over the period of 3 years it will give them cushion of 75 to 150 billion Euro, depending on final size of LTRO. Just time is important, and they're playing for it.

francis_sawyer's picture

winner winner chicken dinner!

Print the coupon, plus a little to pay the bills & cover the losses for a few months at a time, then go begging for more when the bell rings...

ZeroPower's picture

Brockhouse cooper? Lol Montreal coming up to the big leagues i see...

ATrain's picture

Has everyone gone mental? How can you say LTRO was not risk-on? Look at a god damn chart. LTRO went into effect Dec 21 with the S&P500 having alread jumped from low 1200s to 1240s in anticipation. When the LTRO turned out to be much alrger than expected on Dec 21st, the market rallied WITHOUT INTERUPTION to 1310 today. You guys are in full blown denial. If a straight shot 100 point rallyin the S&P500 isn't considered risk-on then WTF is? anybody who went full out long the day LTRO in just about any risk asset would have made out extremely well. 

knight99's picture

except long the euro the biggest rik on assets there is. This doesnt end well its risk on until it isnt.

ATrain's picture

except its not the biggest risk-on asset. just look at any european bank shares, soverign spreads, ANYTHING that ACTUALLY is a risky asset. Euro is a currency. Look at European bank shares like SocGen, US banks like BAC, BTPs, even NBG the National Bank of Greece. All considerably higher since LTRO. VIX has cratered, spreads have shrunk, overnight spreads have plummeted. Denial in the face of a risk-on rally is why this blog and it's permabear fear mongering trolls alwasy make for fantastic contrarian indicators. Your tautology of "risk-on until it isn't" is a hilarious cop-out. 

Bob Bercy's picture

"The 3-yr LTRO is not a catalyst for a risk-on rally" - oh yeah? How come the Eurostoxx50 is up 11% since the first LTRO. These dumbass analysts are so fixed on their bearish obsession that they can't even take the time to check the screen. And...after jumping around a bit the Euro is now flat since the LTRO and the Stoxx has outperformed the S&P by 2%. Best performing Euro-sectors have been 'risk on' - Banks, Autos and Miners, worst perofrming sectors 'risk off' - Utilities, telcos, healthcare and Food&Bev. I know you guys here love to be bearish but sometimes the facts are the facts. QE pushes up the price of risk assets, and like it or not this LTRO is outsourced QE. It won't help the real economy but it will push up the price of crap. You can wallow in bearishness or make some money, but don't recycle this naive unthinking nonsense.

ATrain's picture

Bob, Zero Hedge offers some value as a rumour mill when there's a crisis but most of the time it's a bunch of people whining about a financial system they claim (wish) is on the verge of collapse. The constant diarrhea of doomsday rubbish isn't based on facts but a dream for those who have missed every rally and dumped their 401ks at the bottom - a sort of twisted solace that only complete and total financial collapse of the entire global wealth could bring them. Fortunately these amateurs proivde an excellent gauage of market fear and pessimism that serves contrarian traders quite well. I have difficulty recalling a blogger or analyst who saw LTRO as big risk-on catalyst, and that's why we see a steady rally of shorts scrambling and retail nivestors playing catch-up. 

AldoHux_IV's picture

Whether the LTRO is beneficial for 'risk-on' or not or should be considered in the same vein as QE, it is more important to note that these liquidity provisions have once again only merely timeshifted the perceived risk in the markets.

In either case, with the deleveraging of euro bank assets having had run its course in the last qtr of 2011, the question remains why assets are still somewhat correlated 1:1 as measures by central banks should have been more pronounced in the precious metals (manipulation aside)?