NEW YORK/LONDON: US money markets closed out the week with an easing of conditions both in the repo and short-term Treasury markets, where demand for securities showed new slack.
The extreme conditions that were present earlier in the week in the repo market, where five- and seven-year Treasury notes were trading as repo collateral at dramatically negative rates on Tuesday and Wednesday, eased further on Friday.
In the Treasury bill market, rates rose as demand ebbed for the extreme safe-haven, very low-yielding securities.
In both cases, new supply seemed to be the source of the market move. The Treasury Department sold $35 billion in new five-year notes on Wednesday and $29 billion in seven-year notes on Thursday. Both auctions drew strong demand and a lower-than-expected yield, forcing Treasury traders to buy more securities outright and borrow fewer of them in the repo market.
The Treasury Department announced a $20 billion sale of 49-day cash management bills on Thursday. The coming sale will add more supply to the short-term bill market. In addition, the Federal Reserve sold short-term Treasuries twice this week, also adding to the supply.
Tom Simons, money-market economist at Jefferies & Co In New York, said the Treasury's CM announcement seemed to have a noticeable effect on the short-term market.
"The whole bill market is a little bit heavier because of this increased supply," he said. "I think it's possible we could get another mid-April maturity CM sometime soon so that would put further pressure on the market."
AWAITING ECB TENDER
Meanwhile, interbank markets will remain in the thrall of broader investor risk appetite next week as the European Central Bank reveals demand for its three-year loans, with a high take-up likely to buoy sentiment and push lending rates lower.
Financial markets will be holding their breath on Wednesday when the ECB unveils how much three-year cash banks have borrowed in the second, and possibly last, ultra-long lending operation.
In a bid to alleviate bank funding pressures the ECB has loosened collateral rules and temporarily opened up unlimited access to long-term loans, a move that has also soothed spiking tensions in the sovereign bond market.
In the past, interest in central bank liquidity operations has been limited to money market experts seeking to gauge the impact on short-term interest rates. The traditional dynamic was the greater the excess cash, the lower rates would fall.
But in a system already swimming in more money than it needs, bank-to-bank lending rates are now more likely to rise or fall depending on whether the refinancing operation boosts support for the euro zone's ailing sovereign bond market.
The latest Reuters poll points to a demand of 492 billion euros at the long-term refinancing operation (LTRO).
WHEN THE DUST SETTLES
Looking beyond the assumption that above-consensus demand would push rates lower at first, analysts saw some risk that the move would not be sustained.
"If there's a big number it could be an initial positive reaction by the market, but then they will turn to looking at the crisis from a more fundamental perspective and whether this is enough to turn it around," said Elwin de Groot, senior market economist at Rabobank in Utrecht, the Netherlands.
"In our view, we need more measures by European leaders to do that, so it could well lead to more negative market sentiment in the days following - even if there's a big take-up."
Demand well in excess of the consensus may also raise broader economic concerns: in the first instance that banks were in worse health than the bullish market had assumed, before more structural worries come to the fore.
"That (knee-jerk) may move into a concern that banks might not be focusing on core business quite as much," said Peter Chatwell, rate strategist at Credit Agricole in London.
"Ultimately, to improve the macroeconomic environment we need banks not just to be full of funding, but looking to take real economy business opportunities."
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