Repo Madness – An Enormous “Margin Call”

“Central Banks are panicking…the whole system is on the verge of disappearing into a black hole.” – Egon Von Greyerz on

On Wednesday, after Wednesday’s overnight Repo operation had $92 billion in demand for the $75 billion operations, announced that it was increasing overnight Repos to $100 billion and doubling the two-week term Repo operations to $60 billion. Well, that escalated quickly.

The rationalization is “end of quarter liquidity needs” by the banks who have to increase reserves against assets (loans) or face taking earnings write-downs. But this dynamic occurs every quarter and Repo operations have not been required to keep the banking system from seizing up since QE was initiated.

Note that overnight repo operations were not necessary when the Fed flooded the banking system with QE funds.  The banking system requires immediate liquidity for the first time since QE commenced.  Why?  Recall how you go bankrupt: gradually then suddenly.

Typically the repo rate should correlate tightly with the Fed Funds Rate. But last Tuesday it spiked up briefly to 10%. The media and Wall Street analysts did a good job reporting that there was an obvious liquidity squeeze in the banking system but they did nothing to explain the underlying causes. Moreover, there’s still $1.3 trillion remaining from QE sitting in the Fed’s Excess Reserve Account,  which means banks with cash have plenty of cash to lend overnight to banks which need money.

But the banks with cash were unwilling to lend that cash even on an overnight basis.  So why did the Fed have to inject, by last Wednesday, $75 billion in liquidity into the banking system?

Think about what happened as the start of a giant “margin call” on a global financial system that is likely reaching its limit on credit creation. The enormous increase in derivatives magnifies the problem.  One immediate contributing factor may been losses connected with the cliff-dive in the price of the 10yr Treasury bond.  Hedge funds loaded up on Treasuries chasing the momentum higher using margin provided by the banks (prime brokerage loan agreements). The 10yr Treasury price dropped $4 in eight trading days – i.e. the 10yr benchmark yield jumped 55 basis points.

This may not sound like a lot in stock price terms, but losses on speculative Treasury bond and Treasury bond futures positions likely ran into the  billions. Several entities lost a lot of money during that rate rise, which means there had to have been some margin calls and derivatives blow-ups which required cash collateral or faced liquidation.  Banks themselves carry large Treasury positions which fell $10s of millions in value over that 8-day period.

In addition to losses on Treasury bonds, I’m certain there’s been a general erosion of bank assets – primarily debt-based securities and loans, which have led to enormous losses when Credit Default Swap derivatives are factored into the mix. In effect, there likely was a large systemic margin call which has created a cash and collateral squeeze in the banking system with the primary dealers, which is why the overnight funding mechanism required a cash injection by the Fed eight days in a row now. This is similar what happened in 2008.

For now the Fed is going to plug the funding gap at the banks with these Repo operations. But my bet is that the problem is escalating rapidly.  It is much bigger in aggregate globally than anyone can know,  just like in 2008.  In all probability the Fed has no clue how big the potential problem is and these Repo operations will eventually morph into outright money printing.

16 thoughts on “Repo Madness – An Enormous “Margin Call”

  1. Some stupid questions:

    Why do banks need to borrow overnight? Are their balance sheets so levered that they need overnight cash to balance their positions?

    What is the difference between fed funds and the repo market? According to google, fed funds are issued by the banks (who have the $1.3 trillion you mentioned?) and lent overnight without collateral. Also according to google, repos are overnight funds that require collateral (I recall reading elsewhere that they usually post treasuries, to the tune of 95%)…

    Are higher risk borrowers forced into the repo market if fed funds aren’t available/willing to be lent out? Or are fed funds limited to certain banks with access to the Fed, then lent out to other borrowers via the repo market? Are the Feds current repo operations lent to those banks with first access to the Fed with the explicit purpose of meeting the additional– $100 billion at last count– overnight demand?

    1. You and your brother each have $100 m. You have a Mortgage and loans but you have lent your money to your son as surety who has bought a property. End of month you need $10m to pay your mortgage to a bank.
      Normally each month your brother lends you the $10m and you repay him on the 3rd of the month when your rent income is deposited.
      This month, your brother is worried that you will not be able to cover his $10m loan repayment. So he declines to lend you money.
      The bank says OK you have to have money to pay the mortgage, sell me your $20m yacht and I will sell it back to you on the 3rd when your rents are deposited. For this I will charge $10k.”
      Normally banks borrow from other banks with excess cash to cover short loans. (Central Banks – Fed do not allow any overdrafts at end of business day, and thus you must deposit funds ‘overnight’ to cover any shortage of funds at the CB – Fed.) For some reason either the other banks do not have funds or they are not willing to lend it to other banks.
      When one bank gets ‘scared’ and declines lending, all the others wonder what ‘they’ know and follow suit. Just like a bank run by clients.

    2. ” Are the Feds current repo operations lent to those banks with first access to the Fed with the explicit purpose of meeting the additional– $100 billion at last count– overnight demand?”
      This is what I think is happening. There was a plumbing problem which occurred on Sept. 19 causing the Fed Fund Rate, which is set by the Fed, raised from 2.5% to 8% or 10% – usually lenders will jump on the repo or repurchasing agreement when the rate jumps to 2.75% or 3%. However, the lenders not lonly didn’t jump on it for 3%, they didn’t lend for 8% for overnite with collaterals!!!!
      When that happened, the Fed took out the liquid drano, $50B, to clear the plumbing problem but it wasn’t enough. I believe the Fed set asided $75B every night for the the repo market until Oct. 10 with the additional $30B the following 3 weeks to make sure the blockage is clear.

      1. I think the tally would be around $1T by the end of Oct.

        Where is this $1T coming from? Is it going to be a push on a keyboard?

        A shadow QE??

  2. I have a limited & very superficial understanding of this repo madness but looking at a chart of repo rates dating back to 2008 this recent spike does seem to signal something broke. But it always seems like we get to a this is it moment & the banksters always seem to paper it over & extend/pretend. Is this time really different? I have a small stack of dry powder I really want to allocate to PM equities (have all my physical allocations in place) to gain leverage in this next PM bull run. Dave do you see a pullback in Gold here 6-8wks to a possible $1380 range? Do you think miners will lead in the next leg up (specifically juniors)? What are your thoughts on ETF’s? (SIL, SILJ, RING SGDM) For the lay person who doesn’t have the time to comb through the 1000s of mining companies & or doesn’t have the knowledge in knowing what to look for when researching individual companies. But still want to have exposure to the sector. I know the rewards with mining ETFs aren’t as large but either are the risks. if this bull goes to where we think it will gains in those still better than just holding cash? Ah eff it I should just sign up for your mining stock journal 🙂 thanks for all your insight

  3. Do we really know the quality of bank balance sheets? Wasn’t the mark-to-market requirement suspended for banks? As far as we know, most of them could be underwater. Also, do we really know what leverage they have? We are told that over a trillion is parked with the Fed, who pays them a tidy rate of interest, compared to what we get on our accounts, but aren’t those reserves marginable, too, being collateral?

  4. With everything so leveraged with derivatives a small change in rates or prices can escalate quickly into chaos.
    The question is why the 10yr changed so much as to trigger derivatives?
    I think we about to see a massive ‘Butterfly” effect, which will make the underlying problems of debt cause total systemic failure.

  5. “after Wednesday’s overnight Repo operation had $92 billion in demand for the $75 billion operations, announced that it was increasing overnight Repos to $100 billion and doubling the two-week term Repo operations to $60 billion.”

    I should have read the article first before I comment. I have no idea things had escalated and it’s double scary.

  6. I think it may be prudent to remove all non essential cash from
    the banking system and become your own central banker.
    This time there is a real danger that the credit system could seize
    up. No ATM, No credit cards, no access to your deposits.
    Act accordingly and do not under estimate the potential scenario.

    Stay Frosty

  7. Possible reasons why all the banks are broke several hundred times and need overnight Repos to $100 billion and doubling the two-week term Repo operations to $60 billion:

    1) Foreign countries buying oil & gas in other currencies other than the U.S. Dollar which severely reduces world demand for USDollars.

    2) Foreign countries selling U.S. Treasuries by the billions or more which depleted the cash of the U.S. TBTF banks so the Fed stepped in to monetize this debt by buying these treasuries from the TBTF banks to provide liquidity to them. This is why the rates on Treasuries spiked up a percentage point or so because the Fed is trying to stop this spike up in treasury rates. It’s a lie that this is only temporary but it is permanent. Total monetization of U.S. Debt.

    3) Hedge Funds and billionaires pulling cash out of U.S. Banks and buying tangible assets of all kinds, placing money offshore in the usual places and also investing some in emerging markets. Silent run on the banks just like 2008 by big money.

    4) Bank losses on derivative trades overwhelming the system. At least one huge bank failure or more has occurred and they will not tell you to prevent a PANIC and run on the banks.

    On Financial TV, they will continue to lie and tell you that everything is fine until one day the SHTF and it isn’t.

  8. USDollar money printing infinitum = normal business operations for the last 50 years or more.

    Other countries have been fighting back and no longer will be the financial & economic slaves/serfs to the U.S. Western Banking Cabal, the toxic USDollar and bankrupt U.S./ European/Japan/England/Australian/S. Korea/Canadian consortium.

    This is why the Repo Madness had to be implemented. How long can they continue to get away with this when total debt in the world is $250 Trillion and going up everyday.

  9. I was with some well-to-do trader types over the weekend in NYC and word around town is that the liquidity issues are due to Krauts.

    Does anyone now how much truth there is to that?

  10. Everybody stares at the banks. The whole system is corrupt. It could be something entirely different. Like GE and derivative losses due to off balance sheet financing.

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