Hope for you SHORT positions12 Oct 2016 08:18
A $7 Trillion Moment of Truth in Markets Is Just 3 Days Away
If the London Interbank Borrowing Rate was a musical artist, or an actor, or a sports team, we'd be calling 2016 its comeback year.
Not since the financial crisis of 2008 has Libor, to which almost $7 trillion of debt including mortgages, student loans and corporate borrowings, is pegged — experienced such a surge.
The three-month U.S. dollar Libor rate has jumped from 0.61 percent at the start of the year to 0.87 percent currently — a 42 percent rise — ahead of money market reform that's due to come into effect on Oct. 14.
The new rules require prime money market funds — an important source of short-term funding for banks and companies — to build up liquidity buffers, install redemption gates, and use 'floating' net asset values instead of a fixed $1-per-share price. While the changes are aimed at reinforcing a $2.7 trillion industry that exacerbated the financial crisis, they are also causing turmoil in money markets as big banks adjust to the new reality of a shrinking pool of available funding.
Some $1 trillion worth of assets have shifted from prime money market funds into government money market funds that invest in safer assets such as short-term U.S. debt, according to Bloomberg estimates. The exodus has driven up Libor rates as banks and other corporate entities compete to replace the lost funding.
Now, analysts are debating whether the looming Oct. 14 deadline will mark a turning point for the interbank borrowing rate, as money markets acclimatize to a new reality.
While analysts at Deutsche Bank AG believe that Libor may be poised to tighten when compared to other benchmark interest rates after Oct. 14, their counterparts at TD Securities speculate that Libor will "head higher" and the spreads won't "compress anytime soon." Meanwhile, Goldman Sachs Group Inc. thinks Libor will reach a 3.6 percent by the end of 2019 — or about 270 basis points more than its current level.
"We are inclined to think that the midsummer Libor pain has fully run its course, and three-month Libor could begin to set tighter against [Federal Reserve expectations as measured by the overnight index swap rate]," Deutsche Bank analysts led by Dominic Konstam wrote in a note published late last week.
Complicating such forecasts is the vast array of moving parts involved in money markets. These range from the liquidity operations, currency swaps, and monetary policies of central banks, to the behavior of investors, bank treasurers, and money market fund managers.
At TD Securities, analysts led by Priya Misra note that market pricing currently suggests an expectation that the spread between Libor and the overnight index swap (OIS) rate will begin to compress sharply following the October deadline.
"Libor should continue to head higher due to impending money fund reform. After the deadline, we expect Libor to stay high," t
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