No. of Recommendations: 8
<<When the Federal Reserve cut the discount rate after the 2001 market bubble popped and held it low for years, the housing bubble resulted. When the Federal Reserve cut the discount rate (and also suppressed longer term rates) for 10 years after the 2007-2009 recession ended, the current bond and stock market bubbles resulted. There has been no market price discovery of the true value of money since 2000 that has been free of Federal Reserve interest rate suppression...
The financial markets are so addicted to manipulation that the Fed dare not free them...not even for a day. That is why the Fed is pumping into the overnight repo market.
>> [Emphasis added.]


In response to your piercing insight - so succinctly described in the bolded excerpt above - it appears that, in the very long term (over the next 10 to 20 years), the Federal Reserve can not and will not unwind the very central bank interest rate policies which have continually blown up the asset price bubbles commencing at the turn of this century. At least that is what the reputedly “best run bank in the world,” JPMorgan Chase (JPM), has clearly predicted and realized in its balance sheet conversion during 2019.

This is what Reuters reported on October 1, right after the "repocalypse" occurred spiking overnight rates to 10%:

Publicly-filed data shows JPMorgan reduced the cash it has on deposit at the Federal Reserve, from which it might have lent, by $158 billion in the year through June, a 57% decline.
Although JPMorgan’s moves appear to have been logical responses to interest rate trends and post-crisis banking regulations, which have limited it more than other banks, the data shows its switch accounted for about a third of the drop in all banking reserves at the Fed during the period.
[Emphasis added.]

The world’s largest non-bank cash hogs (hedge funds), have also come to the same realization (permanent central bank asset price support) upon hedge funds’ observation of JPM’s 2019 balance sheet conversion (from cash and short-term paper to long-dated US Treasuries). Hedge funds have utilized their unmatched leveraging skills to ratchet up the risk of rate tightening, effectively forcing the hand of the Fed to provide permanent “not-QE” in the form of low interest cash access via the repo markets.

The following three articles support what I believe is an accurate assessment that the central banks are permanently bound to provide easy money - thanks to their own earlier, "temporary," easy money interest policies.

"September stress in dollar repo markets: passing or structural?"

" 'The Fed Was Suddenly Facing Multiple LTCMs': BIS Offers A Stunning Explanation Of What Really Happened On Repocalypse Day"

One increasingly popular hedge fund strategy involves buying US Treasuries while selling equivalent derivatives contracts, such as interest rate futures, and pocketing the arb, or difference in price between the two.
While on its own this trade is not very profitable, given the close relationship in price between the two sides of the trade. But as LTCM knows too well, that's what leverage is for. Lots and lots and lots of leverage.
As the [Financial Times] notes, people active in the short-term borrowing markets say that to fire up returns, "some hedge funds take the Treasury security they have just bought and use it to secure cash loans in the repo market. They then use this fresh cash to increase the size of the trade, repeating the process over and over and ratcheting up the potential returns."
In short, and as shown in the chart above, some of the world's biggest hedge funds are active in the repo market to boost their returns. The problem is what happens when repo rates get unhinged as happened on September 16: for the best example of how market players react when their underlying correlations go tilt, look no further than what happened to LTCM in 1998.
This also explains why the Fed panicked in response to the GC repo rate blowing out to 10% on Sept 16, and instantly implemented repos as well as rushed to launch QE 4: not only was Fed Chair Powell facing an LTCM like situation, but because the repo-funded arb was (ab)used by most multi-strat funds, the Federal Reserve was suddenly facing a constellation of multiple LTCM blow-ups that could have started an avalanche that would have resulted in trillions of assets being forcefully liquidated as a tsunami of margin calls hit the hedge funds world.
Here it is the Big Four banks that were once again instrumental in allowing this arb to emerge in the first place. As the BIS notes, "concurrent with the growing role of the largest four banks in the repo market, their liquid asset holdings have become increasingly skewed towards US Treasuries, much more so than for the other, smaller banks. (chart below, right-hand panel). As of the second quarter of 2019, the big four banks alone accounted for more than 50% of the total Treasury securities held by banks in the United States - the largest 30 banks held about 90% (chart below, left-hand panel). At the same time, the four largest banks held only about 25% of reserves (ie funding that they could supply at short notice in repo markets).
[Emphasis in original.]

"Here Is The Megabank Behind September's Repo Shock"

NO SURPRISE: JPM, with its systemically important, $2.7 Trillion balance sheet, was able to “front run” what they knew the Fed would be forced to do over the long-term - to continously suppress interest rates. That’s why JPM converted billions and billions of USD cash reserves on its balance sheet into long-dated Treasury Bonds (cash equivalents) during 2019, commencing in February, when its CFO telegraphed it would have to do so in anticipation of long-term interest rate trends… CFO Marianne Lake said that, after years of industry-leading loan growth, “we have to recognize the reality of the capital regime that we live in.” [Emphasis added.]

The smartest guys in the room (JPM) have predicted, have front-run, and - by telegraphing the future to hedge fund managers - have forced the hand of the Federal Reserve, effectively casting in stone a permanent state of extremely low interest rates (ensured by continuous financial repression), and increasing the value of their own balance sheets.

Unfortunately there is one thing that JPM, with its Treasury-laden balance sheet, and the hedge funds, with their massive leverage, cannot ensure. They cannot ensure that their predictions, well-laid plans, and leveraged bets won’t be disrupted by some external event (such as a major global bank collapse), cascading global panic, bank run, or natural/manmade disaster.

Print the post  


This is a Politics Free Board
Politically charged posts are not permitted on the Metar Board. If you make a political post, and it is alerted, the post will be removed. Thanks!
What was Your Dumbest Investment?
Share it with us -- and learn from others' stories of flubs.
When Life Gives You Lemons
We all have had hardships and made poor decisions. The important thing is how we respond and grow. Read the story of a Fool who started from nothing, and looks to gain everything.
Contact Us
Contact Customer Service and other Fool departments here.
Work for Fools?
Winner of the Washingtonian great places to work, and Glassdoor #1 Company to Work For 2015! Have access to all of TMF's online and email products for FREE, and be paid for your contributions to TMF! Click the link and start your Fool career.