🚨FED just injected $11B of liquidity #2

🚨FED just injected $11B of liquidity 👉 TL;DR: interest rate cuts & QE incoming $11B is insignificant - but it's an early sign: there is a lack of liquidity/cash if undressed, will lead to systemic defaults. existing debt needs to be refinanced the fix/what's next? see TL;DR

SRF provides daily $500B liquidity limit for overnight repo operations a rate is published daily & dealers lend borrow against US bonds dealers/market makers use SRF when the rate in the open repo market gets too high SRF = Standing Repo Facility

with SRF the FED sets an upper limit on repo market rates most of the collateral is US Treasury bonds this exerts downward pressure on bond yields - by preventing sell-offs

how does SRF lower UST bond yields? if you have a US bond and you need cash, your options are: 1️⃣ borrow cash against bond in repo markets 2️⃣ sell the bond this $500B liquidity pool for US bonds prevents their sell-off in the open market, which would raise their yields

note that FED's SFR doesn't lower the treasury yields per se it's more correct to say that it puts downward pressure on them, in the form of a $500B buffer & note that treasuries probably wouldn't be the first in line for liquidation

funding rates on repo markets & bond yields are not the same different timescales: 1️⃣ repo - short-term / ≈day(s),week(s) 2️⃣ treasury bonds - ≈10 years so even if a funding rate raises for a few days, the longer-term bond yields may not be affected

repo funding rates don't affect US treasury yields immediately due to time scale treasury bond yield expectation is over 10 years, and repo rates are a short-term debt funding mechanism so the rates shock would need to be prolonged/pronounced to affect treasury rates

persistently high(er) funding repo rates will push the treasury yields up eventually, the bonds would be sold for cash again - think of the timescale: funding rates refer to much shorter periods

shorter-term US bonds yields react IMMEDIATELY to repo funding rate notice the huge green candle on June 30th - the same day of FED's SRF $11B volume June 30th is when the FED SRF volume recorded ≈$11B this is a 1 month treasury bill ⬇️

in a monthly maturity/tenor timescale - the repo funding rate has very direct effects this makes sense - if your bond is maturing in ≈1 month, every day is significant so you see more immediate effects from federal reserve's SRF operations / repo funding fee increases

dealers/market makers are legally limited in their balance sheet there are ratios that they must respect, or face legal consequences (e.g. fines) check Basel III & Leverage Ratios for more info - I also wrote about it in my past posts committee recommendations develop into law

so the market operations of dealers/market-markers is quite predictable you just have to look at their business & regulatory model - from there it's almost plain math under regulatory constraints

if regulatory ratios are breached, they must be restored there is only so much a dealer/market maker can do so you can deduce their next action with a high degree of certainty then, deduce its implication on the liquidity flow & into which sector the funds are flowing

regarding liquidity flows - repo markets are just one of the sources so it's more useful when you combine it with others, such as the central bank policies, how much short-term debt is maturing, and the overall leverage level

repo funding rates are predictors within this global, multi-factor liquidity context you can use them to understand liquidity flows in the near future this is also because repo markets are short-term debt instruments - so the signal is also more short-term

using FED's SRF for liquidity means cash/liqudity is scarce there is a lot of short-term debt to be refinanced or default default is not an option. thus, expect liquidity injections from the central bank

central bank liquidity injection includes direct & indirect QE, interest rates & policies end result is the same - more liquidity/cash in the system this means inflation & gold up at least short-term: equities up, crypto up

this will also further fuel the asset bubble & devaluate USD so it doesn't mean that stock & crypto will go up perpetually - it's a cycle of course, at some point the debt bubble will pop - but it's unlikely to happen tomorrow 😄

when it pops - massive leverage unwinding will occur here - equities & crypto will collapse in price, so will bonds. gold, silver & precious metals go up worldwide systemic defaults will follow the whole world is dependent on the US financial system, both public & private

while the bubble will pop - the side-effects can be minimized historical behavior & current financial signals do not indicate that this will be the case

these boom & bust leverage/debt cycles have been the norm in modern financial markets: 1️⃣ each cycle gets refiled with more debt/leverage - boom 2️⃣ eventually, the debt cannot repaid - bust 3️⃣ go to boom

smaller busts precede larger busts whichever is the ultimate resolution of the bubble - repricing will occur for some assets this will be good, for others - not so much even in the same asset class different assets perform differently (think manufacturing vs tech stock)

this is why funding repo rates are a very useful indicator if you're just arriving here - read the previous posts 😄 you can also follow along the quoted posts from below. just click on it ⬇️