General Collateral Rate Surges To Highest Level In 7 Years

In what may be an indication of a major collateral shortage, but most likely is simply a case of quarter-end "window dressing", the overnight general collateral rate soared to 0.82% this morning, its highest print in nearly seven years, and roughly where it would trade if the Fed had hiked in September. GC soared to 0.85% yesterday afternoon yesterday after opening at around 0.68%.

As SMRA points out, the GC rate often spikes as quarter end approaches. The early morning fed funds rate is at 0.40% this morning, unchanged from 0.40% yesterday. Both the effective fed funds rate and overnight bank funding rate were in line with the fed funds rate at 0.40% on Monday, unchanged from the prior couple weeks.

It wasn't just general collateral surging. As the Fed announced eariler today, in today's fixed-rate reverse repo, 59 counterparties parked $272.3bn in cash in exchange for with the Fed in what by Sept 30 - or quarter end - will likely be the highest reverse repo use of the year by the final day of Q3 as the cumulative totals typically peak on the last day of the month and, in this case, quarter.

This is how Wedbush's Scott Skyrm explains the surge in both GC and RRP:

On a typical quarter-end, there's funding pressure driving Repo rates higher and a decreased supply of "specials," making it harder (more expensive) to cover shorts. In this pre-quarter-end period, there's only been funding pressure. This leads me to believe the current situation is driven solely by investor cash leaving the market (and going into the RRP).

 

So here's my interpretation of what's going on: Banks cut back on their balance sheets more aggressively for the quarter-end beginning last week. Cash investors, who normally send much of their cash into the Repo market, were forced into the RRP. As each day went by, more cash was pushed into the RRP. Less investor cash in the market with the same amount of collateral means Repo rates move higher and thus the reason for the funding spikes beginning yesterday.

Curiously the spike today takes place on the same day 3M Libor had an unexpected, and sharp drop, falling to 0.8377% vs 0.8538%, the largest decline since June 24.  According to CA, while easing of worries about Deutsche Bank may be abating some concerns about financial stress, helping FRA-OIS spreads tighten, the reasons behind the lower libor are "less clear."

We expect they will become more clear after quarter end when the window dressing overhang is removed. If these repo, GC and funding market abberations persists into Q4, then some more probing questions will have to be asked. For now, however, we like everyone else, can only observe the strange occurences in the markets without an ability to attribute causality aside from saying that this is what happens in a centrally-planned market.

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