In Part I of this two part article about US overnight reverse repurchase markets, I posted the February 2022 yields on short-term T-bills, which you can view by clicking this link. In Part I, I provided “the simple explanation of why” the ONRRP market exploded 60 times higher in the past ten months. However, here is the more stunning revelation that leads to “the more complex explanation of why”.
The More Complex Explanation of Why
As of February 2022, here are the following yields on short-term US T-bills.
The Fed’s website states that the current offering rate in the ONRRP market is a paltry 0.05% annually, a yield well below all current short-term T-bill yields shown above. This begs the following question, “Why would banks choose to park their overnight money in an ONRRP market at a 0.05% yield when they could buy much higher yielding 3-month (nearly six times higher yield) or 6-month T-bills (more than ten times higher yield)? If T-bills are really the no-default, zero-risk instruments that bankers always pitch them to be, then why would commercial bankers not simply park their cash in T-bills at a much higher yield versus parking massive amounts in the ONRRP market?
Fear
Here is one possible answer. Should interest rates rise, bonds with lower yields, aka short-term T-bills will be shunned in favor of longer-term Treasury bonds with higher rates of interest. In fact the 10-year UST bond recently just exceeded a 2% annual yield for the first time in many months, though this yield still translates into a net negative return when factoring in real inflation rates. Despite the absurdly low yields of long-term UST bonds, in a rising interest rate environment, short-term T-bills will be sold and their prices will decline. In light of the incessant Fed propaganda regarding the execution of multiple interest rate increases this year, with Bank of America analysts predicting a ridiculous seven such interest rate hikes this year, commercial bankers are scared to tie up their cash for three to six months in T-bills and thus are willing to accept fractions of the yields in the ONRRP market.
However, is fear of declining T-bill face values completely responsible for the explosion of the ONRRP market in the last ten months? As we know, fear and greed are the two emotions that drive markets and asset prices. Are the Feds using the threat of multiple interest rate hikes this year to hold bankers hostage, psychologically blackmailing them into supporting the short-end of the UST yield curve that otherwise might have already imploded? It seems reasonable that fear is largely responsible for the commercial bankers’ decisions of how to deploy their massive reserves of cash. But what about the greed portion of the “fear and greed” equation?
Greed
We all know that all the irresponsible commercial banking decisions that caused the 2008 global financial crisis were driven not by fear, but by excessive uncontrollable greed. It is highly unlikely that this character trait of the banking industry has been reeled in since then. In fact, the growth in global derivative markets since then (if you understand how to back out the accounting tricks that were used to artificially shrink the global derivative market size since 2008) suggest that greed has not been reeled in, but has only continued to expand.
If we look at the chart of the EFFR (Effective Fed Funds Rate) versus the target Fed Funds rate, we see that the current EFFR, as it has been for quite some time, is significantly lower, at just 0.08%, than the 0.125% median rate of the targeted Fed Funds range of 0.00% to 0.25% that has existed since March 2020. When the EFFR rate trends toward the bottom of the Fed Funds rate target zone, bank appetite for the ONRRP market has usually grown since 2008, but this is only because yields of short-term, “no-default”, “no-risk” T-bills have typically been lower than the offering rate of the ONRRP market due to long periods of ZIRP (Zero Interest Rate Policy). However, as I explained above, this explanation has no validity now for explaining the absurdly large ONRRP market, because bankers are no longer receiving yields that are higher than short-term maturity T-bills, but yields that are multiple times lower than short-term maturity T-bills.
Furthermore, the consensus analyst take on US stock markets last November, when the Feds announced that they would be tapering the ONRRP markets, was that this was a risk off event and that US stock markets would continue to blast their way higher. This point is important, because if you scroll back to the top of this article and look at the ONRRP chart above, the Fed’s announced “tapering” of the ONRRP markets was complete propaganda, as usual, though interpreted as “fact” at the time, as the ONRRP market was “tapered” from $1.585 trillion by a whopping 8.2% to $1.455 trillion before being ramped much higher again. What a taper, right? And this is why I repeatedly state that no one should ever take the word of Central Bankers as “truth”.’
The Mind Blowing Conclusion
If, after the Feds promised to taper the ONRRP market, they actually tapered the market by 25% by now with a continuing steady rate of tapering, then I would interpret this as a sign of market health. The fact that they not only failed to taper the market, but actually grew the ONRRP market signifies to me that there is enormous risk in US markets being completely ignored by the mass financial media. And I believe this risk may be as massive as the MBS debacle, the fallout of which triggered the destruction of an estimated $13 trillion of wealth in America. What is the new MBS? Subscribe to my substack newsletter here to find out before anyone else.
It is clear to me that the massive growth in the ONRRP market signifies that another 2008 global financial crisis is coming, but on a much bigger scale. There simply is nothing out there that commercial banks find attractive enough to invest in, given their massive cash reserves and the potential pay out relative to risk, of the existing options, including BTC and other cryptos, at this time. Of course, just because commercial bankers believe this to be the case doesn’t necessarily make it so, but bankers are not known for their conservative stance, but rather their greed and high-risk, hedge fund-like bets. In the mid-2000s bankers largely were ignorant of the garbage quality of the MBS market and continued to invest in them as if they were deserving of their AAA credit ratings. The fact that bankers today are refusing to allocate their massive cash reserves to much higher yielding products due to problems they have already identified is much a scarier situation than ignorance induced greed, because this means bankers are simply waiting for the first domino to fall. One would be much advised to heed the silent warnings provided by the ONRRP market.
Coming Next. The New MBS That Will Topple Global Markets
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