Repo Market Disruptions: In Reverse (Part II)

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Fed Liquidity Infusions

It was previously reported that there were significant repurchase agreement (repo) disruptions with consequent disruptions in the Secured Overnight Financing Rate (SOFR).[1]

Explained

During the market turmoil precipitated by the pandemic, there was a natural infusion of liquidity by the Federal Reserve through the repo market.[2] These liquidity infusions also took place to deal with impact of the Great Recession.[3]

Unexplained

However, there have been largely unexplained liquidity infusions by the New York Fed in (i) January/February 2020 (prior to the pandemic)[4] and (ii) September 2019[5].

Recent Significant Reverse Repo Activity

In contrast to repos, where the Federal Reserve infuses cash into the financial system, reverse repo activity typically signifies optimally functioning liquidity markets with banks, broker-dealers and other participants providing the liquidity, temporarily reducing the quantity of reserve balances in the banking system. Other participants include, but are not limited to, insurance companies, money market funds, pension funds, and Government-Sponsored Enterprises (GSEs). It should be noted that reserve balances have recently been reduced for many financial institutions.

April 22 - May 28

Increased Reverse Repo Activity

As previously reported, during this period there was a significant increase in reverse repo activity and a relaxation of reverse repo participant requirements.[6]

Economic Concerns

In addition, there were possibly related economic concerns due to substantially lower levels of expected employment and higher inflation.

June 1 – June 11

Significantly Increased Reverse Repo Activity

During this period, the average reverse repo volume was $490.9 billion, increasing by 32.3% from the prior two-week period, with overnight interest rates remaining at 0%.

Week of June 14

Increased Reverse Repo Activity

During this week, the average reverse repo volume was $592.5 billion, representing an increase of 20.7% from the June 1 – June 11 period.

Unprecedented Reverse Repo Activity

On June 17 and June 18, the reverse repo volume was $755.8 billion and $747.1 billion, respectively.

Increased Reverse Repo Rates

Importantly, the overnight interest rates paid by the New York Fed to entice this significantly increased reverse repo activity was 0.05%. This is the first time that this rate was over 0% since the recent increased reverse repo activity was first reported.[7]

[1] See the section entitled “Recent Fed Liquidity Infusions” in “The End of LIBOR: SOFR Volatility and LIBOR Transition, dated November 7, 2019 (the “November 2019 Client Alert”).

[2] See “The End of LIBOR: Further Market Liquidity Issues in Light of Market Turmoil,” dated March 10, 2020, with Michael Lengel.

[3] See the section entitled “Historical Fed/Bank Liquidity Infusions – Great Recession – New York Fed Infusions” in “The End of LIBOR: SOFR Updates,” dated December 27, 2019.

[4] See “The End of LIBOR: SOFR Updates,” dated February 10, 2020, and “The End of LIBOR: SOFR and Related Updates,” dated February 19, 2020.

[5] See the section entitled “Recent Fed Liquidity Infusions” in the November 2019 Client Alert.

[6] See “Repo Market Disruptions: In Reverse” dated June 1, 2021.

[7] Id.