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Where's the floor? Investors left guessing as US, Europe money market rates sink

Wed, 21st Oct 2020 11:16

By Dhara Ranasinghe

LONDON, Oct 21 (Reuters) - A widely-used benchmark for U.S.
short-term interest rates has dropped to record lows, joining
its European peers, in the latest sign that massive central bank
stimulus has suppressed borrowing costs.

The three-month U.S. dollar London Interbank Offered Rate
(Libor) hit a record low at around 0.21% on Tuesday
and held near those levels in London trade on Wednesday. It is
down more than 100 basis points from highs hit in March at the
peak of market volatility triggered by the coronavirus crisis.

Libor is a global interest rate that forms the price
reference embedded in derivatives contracts and loans worth $400
trillion globally.

"There is a disconnect between the peak we saw in Libor in
March and the record lows we are seeing now," said ING senior
rates strategist Antoine Bouvet.

"What is confounding us is that credit risk is being
underpriced."

Interbank lending rates should reflect some credit risk but
that has been suppressed by the weight of central bank stimulus,
analysts said, a development that also been reflected in tighter
corporate bond spreads this year.

The transition in Libor rates to a new interest rate
benchmark - Secured Overnight Financing Rate (SOFR) - may help
explain the move down as one rate converges with another.

And the move speaks to the bigger fall across money market
rates in major economies, triggered by the pumping of cash into
markets by central banks to offset the impact of the coronavirus
shock, analysts said.

Others noted that expectations for fiscal stimulus may also
be in play.

"What you are seeing now in the U.S. and euro money markets
is that we are in an environment of extremely low market
liquidity which is pushing rates low, there is no risk that we
saw earlier this year," said Jan von Gerich, chief analyst at
Nordea.

Total Fed balance sheet assets have increased just over $7
trillion as bond purchases for quantitative easing approach $3.1
trillion, according to TD Securities.

In Europe, a key money market rate -- three-month Euribor --
has also fallen to record lows in recent weeks amid the abundant
liquidity the European Central Bank has unleashed across the
bloc's financial system.

On Wednesday, this rate was fixed at -0.507%,
within sight of a record low hit last week at -0.51%.

"We are all left guessing what the floor in Libor and
Euribor will be," said ING's Bouvet.

(Reporting by Dhara Ranasinghe; Graphics by Saikat Chatterjee;
Editing by Karin Strohecker and Jane Merriman)

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