Usage of the Fed's reverse repo "RRP" program broke a record last week on the Sept. 30 quarter-end with $450 billion in combined usage. In the weekly "Short-Term Market Outlook and Strategy, J.P. Morgan Securities' Alex Roever writes, "It was all about quarter-end in the money markets last Wednesday. For the most part, what transpired met our expectations. As a result of typical dealer pullbacks in the short-term wholesale funding markets and dealers having to adhere to the final G-SIB reporting date, usage of the Fed reverse repo facility surged on 9/30. The overnight RRP drew $200bn in demand, while both term RRP operations were oversubscribed and totaled $250bn in usage." (Note: Watch for our Sept. 30 Money Fund Portfolio Holdings on Friday, and commentary on money fund holdings in RRP next Monday.)

He explains, "The combination of the overnight and term facilities put total usage at $450bn on 9/30, an all-time high in demand for the RRP, and in line with our forecasts." Roever continues, "Repo rates also temporarily spiked at quarter-end, which has been another dynamic that has been evident through the course of this year. As a result of dealers migrating to the GCF market for regulatory netting benefits, overnight Treasury GCF rates spiked by 12bp on 9/30 to 35bp. Non-GCF rates also rose, albeit more modestly. Both GCF and non-GCF rates were quick to snap back post quarter-end. Additionally, the $250bn in term RRP that matured on Thursday and Friday also helped to richen GCF and non-GCF rates by the end of the week. GCF closed at 16bp on Friday."

Bloomberg also writes about the quarter-end repo usage in, "An Interesting Thing Happened in the Repo Market." The piece explains, "At this past quarter-end repo rates surged, with the move most pronounced in what is known as general collateral finance (GCF) rates between large dealer-banks. While a spike in repo rates has often indicated stress in the banking system, JPMorgan argues that the third quarter's upward move was the result of "financial stability" rather than financial stress.... But the typical end-of-month activity was exacerbated as Sept. 30 also coincided with the day the Federal Reserve took a snapshot of the finances of the largest U.S. banks to gauge the extra capital they will need to hold as part of being categorized as global systemically important banks, or G-SIBs."

The article continues, "Investors such as money-market mutual funds have had the option of parking their cash elsewhere at these times when dealers are shunning them, even as rates are lower. That's because the Fed has been testing an overnight, and at quarter-end extended maturities, reverse repo program, or RRP, ahead of a potential move to higher interest rates. This quarter-end period, investors placed $250 billion at the Fed in their term operations at 0.07 percent and on the 30th a total of $200 billion at 0.05 percent."

Wells Fargo Securities' Garrett Sloan too weighed in on the repo market, writing last week in his "Daily Short Stuff," "Quarter-end came and went and short-term markets were able to endure the balance sheet reductions that were anticipated in the repo market. The absorbent capacity came from the Fed's Reverse Repo Program, which was available both in overnight and term markets. In both term reverse repo auctions, the bid exceeded the amount offered, and as a result, the spread narrowed by a basis point in each instance. Last Thursday's $100 billion 7-day auction offered at +3 to the overnight RRP had just over $112 billion in bids."

He explained, "Yesterday's $150 billion 3-day auction had $163 billion in bids, and yesterday's overnight auction had $300 billion on offer with $200 billion accepted. In total, the amount of collateral provided by the Fed to the repo market amounts to $450 billion. A staggeringly large amount, and 50 percent larger than the current stand-alone overnight reverse-repo program. Whether the Fed has found an effective policy tool remains to be seen, as markets may react somewhat differently once the Fed attempts to move policy rates."

Sloan adds, "Looking back at previous auctions, month-end RRP activity remains heavily dominated by money market funds, both before and after the introduction of the term RRP. That need appears to be growing as well. In June 2014, 90 percent (or $306 billion) of the RRP was allocated to money market funds, in September 2014 that number rose to 98 percent (or $294 billion). By December the figure fell to 94 percent, but includes both term and overnight RRP totaling $371 billion allocated to money funds. In March 2015 the amount allocated to money funds fell to 91 percent, or $345 billion, and in June the percentage allocation to money funds was 95 percent, totaling $372 billion between term and overnight operations."

He tells us, "The most recent $450 billion RRP quarter-end allocation is again expected to be dominated by money market funds. If we assume that the June and September RRP allocations are similar, this quarter-end could see money market fund RRP usage climb to $427 billion. Comparing estimated September quarter-end RRP usage to average non-quarter-end RRP usage by money funds illustrates the magnitude of calendar effects in this new collateral paradigm. Based on these estimates, incremental RRP demand alone in money funds may have risen by as much as $345 billion."

In a separate "Money Market Monitor" commentary, Sloan discussed Treasury Bills and repo supply. "The current contraction in Treasury bill supply is likely to be temporary, and cash bills will likely turn positive once the market moves beyond the most recent debt ceiling issues, though that is potentially a 2016 event. In the meantime, buyers that want to own bills may struggle finding dealers to short bills due to the sheer cost. But longer-term structural issues remain, raising the question of how aggressively the Fed needs to increase the size of the Reverse Repo Program to see short-term rates move in conjunction with policy goals."

He writes, "Based on our estimates, the combined size of the most recent term and overnight RRP offerings at September quarter-end appear sufficient to handle the combined influence of calendar effects and reduced balance sheet availability, without seeing a sharp movement in yields outside the inter-dealer market. However, the uncertainty around additional dealer balance sheet reductions, increased demand from government money market funds, and the potential for the U.S. Treasury to further extend its liabilities, could require the Fed to provide even more support via the RRP (i.e. unlimited support) or face the possibility that overnight rates may stubbornly decide they like being close to zero after all."

In another recent commentary, entitled "History Repeats Itself: The Debt Ceiling," Barclays' Joseph Abate looks at the impact of the debt ceiling battle on T-bills. He writes, "The bill market is most sensitive to debt ceiling developments. As we have been writing for several weeks, the Treasury has sharply reduced its bill issuance in order to preserve borrowing capacity to keep the coupon auctions as regularly sized and on schedule as possible. Together with the re-pricing of Fed rate hike expectations, the expected $180bn or more reduction in bill supply through late October has pulled bill yields to 0% or less through the end of the year. However, as the debt ceiling deadline approaches, investors will become more selective about which bills they are willing to buy."

He continues, "We expect the November 5 bills to become the principal "debt ceiling" issue, although investors are likely to avoid the October 29 and November 12 bills. Regardless of their underlying reasoning, the debt ceiling bills started to cheapen sharply. Money funds held over $434bn in Treasuries at the end of August. But they held only $32bn of issues maturing in the final week of October, and another $6bn in Treasuries maturing in the first week of November. It is difficult to determine if this was a deliberate strategy on the part of managers in anticipation of a potentially uneven debt ceiling process."

Finally, Abate writes, "Alternatively, money funds may have avoided the sector given their super-low yields caused by the supply reductions the Treasury has undertaken to keep the coupon auction cycle regular and predictable while the debt ceiling is negotiated. In past debt ceiling episodes, demand at bill auctions slackens and the bid-to-cover ratio declines as investors become leery of taking on more short-term Treasury obligations ahead of Congressional action to increase the debt ceiling. Similarly, dealers reduce their bill inventories and their trading volumes in the market fall, especially for the debt ceiling-affected issues. As they step away from intermediating in the bill market, bid-ask spreads widen and liquidity declines."

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