Unprecedented Borrowing Surges to Record $141 Billion from Federal Reserve Backstop Facility

Economic

Summary:

In the week ending January 3, borrowing from the Federal Reserve's latest backstop facility reached an unprecedented $141 billion, marking an all-time high. This surge in usage is attributed to the attractiveness of the facility's pricing, especially amid diminishing expectations for interest-rate cuts. Despite reduced bets on rate cuts, banks found the facility increasingly appealing, highlighting its significance in current market dynamics.

In the week ending January 3, borrowing from the Federal Reserve's Bank Term Funding Program (BTFP) hit an unprecedented high, reaching $141 billion, surpassing the previous record of $136 billion in the prior week. The surge is attributed to the appealing pricing of the facility, despite diminishing expectations for interest-rate cuts. Launched amid last year's banking crisis, the BTFP allows financial institutions to borrow funds for up to one year, utilizing US Treasuries and agency debt as collateral at par value. The facility, set to expire in March, raises questions about a potential extension by Fed policymakers.

Recent data from the Fed reveals the heightened demand for the BTFP, with borrowing costs decreasing as traders anticipate more rate cuts in 2024. At approximately 140 basis points, institutions find it economically favorable to borrow through the BTFP, currently offering a rate of 4.90%, rather than resorting to the discount window, which charges eligible institutions 5.5%. In contrast, borrowing from the discount window amounted to just $2.16 billion in the week through January 3, significantly lower than the all-time high of $153 billion in March.

The drop in BTFP borrowing costs has created a notable arbitrage opportunity for banks. Financial institutions leverage this advantage by borrowing from the facility and then depositing the proceeds in their accounts at the Fed, earning interest on reserve balances at the current rate of 5.40%. This 50-basis-point spread, a mere fraction below the record 57 basis points reached on December 28, underscores the attractiveness of this financial strategy.

As the BTFP continues to play a pivotal role in shaping banks' borrowing behavior, its significance within the broader financial landscape becomes increasingly apparent. The ongoing appeal of the facility, coupled with potential considerations for an extension beyond March, raises important questions about the evolving dynamics of the financial markets and the Federal Reserve's role in supporting stability. In an environment marked by shifting interest-rate expectations, the BTFP's influence on banks' decision-making underscores the intricate relationship between monetary policy and market dynamics.

Source: Bloomberg

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Chandan Gupta

Traders' Opinions

Economic

Forex

In 2023, the USD/JPY pair experienced a trajectory of fluctuating values, showcasing varied highs and lows. The Japanese yen witnessed a consistent depreciation against the US dollar throughout the year, with the USD/JPY pair trending upwards. The year commenced at a low point of 127.21 on January 16th, peaking on November 13th at 151.90 yen per dollar.

The yen's depreciation was attributed to the prolonged ultra-dovish stance of the Bank of Japan (BoJ), maintaining a negative interest rate of -0.1%. This rate, unattractive compared to higher rates offered by other leading central banks, led investors to engage in carry trade strategies, borrowing yen at low rates and converting it to US dollars and Treasury bonds to capitalize on interest rate differentials without excessive risk.

The Bank of Japan appeared more inclined towards economic indicators than direct intervention in the yen's exchange rate. Despite rising inflation, hitting 4.2% in June 2023, the BoJ made limited policy adjustments, shifting from a strict to a more flexible yield curve targeting. Verbal assurances from top officials indicated control, but actions remained minimal and largely verbal.

Expectations were high at the beginning of the year, with various financial institutions predicting a downward trend for the USD/JPY pair. However, as months passed, forecasts were adjusted, reflecting a growing uncertainty among market participants about the direction of the pair.

By the latter part of the year, as the USD/JPY pair approached a critical level of 150.00, reminiscent of an intervention triggered in 2022, speculations arose about potential interventions by Japanese authorities. On October 3, as the pair briefly surpassed 150.00, a swift decline ensued, leading to a drop of almost 300 points, followed by a partial recovery. This incident raised speculation about a possible currency intervention, although it could not be confirmed.

The yen showed signs of resilience towards the end of the year, strengthening against the dollar. The positive movement was attributed to market expectations of a potential shift in the BoJ’s policy, with talks of abandoning the negative interest rate policy gaining traction. Furthermore, market sentiments anticipated a plateau in key interest rates of major economies, hinting at a potential reversal in carry trade strategies.

As the year drew to a close, the USD/JPY pair hit a low of 140.24 on December 28 before concluding the year at 141.00.

Looking ahead to 2024, forecasts and speculations from various financial institutions and agencies suggest a divergent outlook for the USD/JPY pair. Projections range from a strengthening yen, aiming for a range of 125.00-135.00, to more bullish estimates predicting a continuation of the upward trend towards levels exceeding 180.00. The speculative nature of these forecasts indicates the inherent uncertainty surrounding currency market movements and their unpredictability.

The USD/JPY journey in 2023 encapsulated a narrative of market expectations, interventions, and persistent volatility. As the new year started, the narrative is poised for a potential continuation or divergence, subject to economic policies, global market sentiments, and unforeseen geopolitical events. USD/JPY Sneak Peek Into 2024_1

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Ukadike Micheal

Economic

Stocks

The dawn of the new year has brought a subdued start to European stocks, setting the tone for what appears to be a challenging first week of trading in 2024. Global sentiment, marked by fluctuating uncertainties, has cast a shadow over the markets, leading to a decline in European stocks. This article delves into the factors contributing to this early market turbulence, examining the impact of German retail sales data on specific sectors and the broader Stoxx 600 index. Additionally, it explores the global context, drawing parallels with the mostly negative start in U.S. and Asia-Pacific stock markets, and sheds light on the upcoming Euro Zone inflation data, a crucial metric influencing investor sentiment.

The Stoxx 600, a key benchmark for European stocks, witnessed a 0.66% decline at the opening of the trading session, with all sectors slipping into the red. Notably, retail stocks bore the brunt of the market downturn, registering a 1.3% drop, fueled by disappointing German retail sales figures for November. This immediate reaction underscores the sensitivity of the market to economic indicators, with specific sectors feeling the impact more acutely.

While the pan-European index managed to rebound by 0.7% on Thursday after two consecutive negative sessions, the overall trajectory has mirrored the global trend. U.S. and Asia-Pacific stock markets, which experienced a mostly negative start in 2024, are witnessing major Wall Street averages poised to break nine-week winning streaks. Understanding the interconnectedness of these markets is crucial for a comprehensive analysis of the prevailing challenges.

The decline in European stocks, particularly in the retail sector, can be traced back to the unexpected drop in German retail sales for November. The 1.3% decrease in retail stocks reflects broader concerns about consumer spending and economic health. This section explores the nuances of the German retail sales data, delving into the factors contributing to the decline and assessing its implications for the retail sector and the broader market.

To gain a holistic understanding of the challenges facing European stocks, it is essential to contextualize the market movements within the broader global landscape. This section draws parallels between the European market's performance and the mostly negative start observed in U.S. and Asia-Pacific stock markets. By examining the similarities and differences, we can unravel the shared concerns and unique factors influencing market dynamics across regions.

Against the backdrop of early market challenges, investors are turning their attention to upcoming Euro Zone inflation data. Flash inflation figures, expected on Friday morning, hold significant weight in shaping market sentiment. This section delves into the anticipated impact of the Euro Zone inflation data, analyzing the expectations following higher-than-anticipated headline prints for France and Germany in the previous month. Economists' projections suggest a rise to 3% in December, adding an additional layer of uncertainty to the market dynamics.

The early market movements in European stocks underscore the intricacies of navigating global uncertainties in 2024. From sector-specific challenges triggered by German retail sales data to the broader context of global market trends, understanding the multifaceted factors influencing market dynamics is paramount. As investors grapple with uncertainties, the forthcoming Euro Zone inflation data stands as a pivotal metric that could further shape market sentiment in the weeks to come. This comprehensive analysis provides insights into the current challenges and sets the stage for continued monitoring of evolving market conditions.

Source: CNBC

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Ukadike Micheal

Economic

Stocks

China has reportedly provided informal guidance to certain money managers, urging them to prioritize the launch of equity funds over other products like bond funds. This "window guidance" from regulatory authorities, particularly the China Securities Regulatory Commission (CSRC), aims to boost the country's lagging stock market. As part of broader efforts to revive investor confidence amid challenges such as a property sector crisis and slowing growth, the move underscores a strategic push by authorities to stimulate investment in stocks.

The CSRC's recent advice to major mutual fund managers reflects a concerted campaign to revitalize China's $3.8 trillion mutual fund industry, a crucial component of the country's capital markets. The industry has experienced dwindling sales, especially in equity funds, over the past year, coinciding with multi-year lows in stock benchmarks.

Efforts to launch new equity funds align with the Chinese government's year-long initiative to bolster the stock market, which has faced headwinds from economic uncertainties. Despite previous measures, such as reducing stamp duty on stock trading, slowing initial public offerings (IPOs), promoting margin financing, and safeguarding small investors, China's stock market struggled in 2023. The CSI300 index closed the year with an 11% loss, while global stocks gained 20%.

As part of the recent guidance, the CSRC reportedly instructed some fund managers to launch a minimum of four new equity funds before introducing any new bond funds. While these measures aim to rejuvenate the equity market, analysts remain skeptical about their efficacy in restoring overall market confidence.

In 2023, China saw a decline in the launch of new equity funds, with a 22% decrease from 2022 and a significant 49% drop from 2021. The funds' proceeds also experienced declines of 39% and 89% from 2022 and 2021, respectively, amounting to 137.5 billion yuan ($19.18 billion). In contrast, institutional-tailored bond funds, a popular category, witnessed a modest decline in new launches and steady growth in proceeds.

Amid Beijing's renewed push, the private funds sector, with around 20 trillion yuan in assets, has witnessed quicker approvals for new equity funds compared to funds tracking other asset classes in the past two months.

Since July, the CSRC has been implementing reforms in the funds industry, directing managers to reduce management fees. While some funds responded with fee cuts or purchasing units in their own funds, the industry observed varying trends, with bond funds often shortening subscription periods or limiting investor subscriptions.

Despite the regulator's push for mutual fund managers to prioritize equity fund launches, uncertainties persist regarding local investor interest, particularly as they grapple with diminishing stock market returns. Analysts remain cautious about the potential impact of promoting equity funds in a sluggish market, citing high marketing costs and potential low effectiveness.

China's move to encourage equity fund launches reflects ongoing efforts to navigate challenges in the financial markets. The success of these measures remains uncertain, and the effectiveness of revitalizing investor interest in equities depends on a multitude of factors, including market conditions and investor sentiment.

Source: Reuters

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Devin

Economic

Bond

A 150-billion-euro ($165 billion) deluge of government bond sales in January is fueling unease in euro area bond markets, a foretaste of a potentially record amount of public debt that markets will have to absorb this year.

Bond yields, which move inversely to prices, have started 2024 higher after plunging in November and December. Germany's 10-year yield, the euro zone benchmark, has risen to just over 2% from a one-year low of 1.896% last week.

A trimming of investor bets on how much and how early central banks will cut interest rates this year has driven the bond selloff. Now adding to it, are concerns that markets will struggle to digest another year of hefty government debt sales.

ING estimates that the euro area will issue around 150 billion euros of debt this month alone as governments seek to take advantage of the recent yield fall and investors look for new-year opportunities. There is 72 billion euros of net supply when redemptions are factored in.

Inflation has driven euro zone states to increase welfare payments and public sector wages, while higher borrowing costs are adding to their interest bills, keeping debt issuance high.

A similar amount of debt was issued in January last year, but it's now coming after a powerful rally that looks like it's nearing an end, said Societe Generale interest rates strategist Jorge Garayo.

"The current (yield) levels, they look difficult for the market to digest the amount of supply that is going to be coming," he said. "For us, supply will be a worry and should have an upward impact on yields."

Michael Weidner, co-head of global fixed income at Lazard Asset Management, said one concern is that governments plan to issue a large amount of longer-dated debt.

Longer-dated bonds are generally viewed as more risky, so investors typically demand a premium to hold them.

"We believe there will be more issuance in (longer-dated bonds), and how much duration the market's ready to absorb is a bit of a question mark given the level of yields," said Weidner.

Germany plans to issue 10-year bonds this month, and Spain has already sold a 30-year maturity.

ECB Factor

Adding to investors' worries is the fact that the European Central Bank (ECB), a hoover of government debt over the last decade, is extricating itself from the market.

The ECB announced in December it would start to reduce its 1.7 trillion-euro pandemic-era bond purchase programme - PEPP - by 7.5 billion euros a month in the second half 2024. It is already winding down another of its asset purchase schemes.

When so-called quantitative tightening is taken into account, markets could have to absorb a record 675 billion euros of government debt this year, Barclays estimates, up 25 billion euros on last year.

Wave of Debt Sales Adds to January Nerves in Euro Zone Bond Markets_1

Weidner said he expects the gap between Italian and German bond yields to widen as Germany tries to bear down on its debt levels and the ECB, which has been a crutch for Italian bonds, steps out of the market.

At around 168 basis points, that spread has widened roughly 10 bps over the past week but was still below peaks seen in recent years.

Not everyone is concerned. Joost van Leenders, senior investment strategist at Van Lanschot Kempen, said inflation and central banks will continue to drive bond markets.

"The economic and inflation cycles tend to be far more important than concerns about bond issuance," he said. "Bond yields have fallen because inflation has fallen."

Governments will still be able to issue debt, said RBC Capital Markets' chief European macro strategist Peter Schaffrik, especially as they also plan to redeem plenty of bonds, returning money to investors.

"I don't think there will be any failed auctions or anything like that, it's just a question of the yield concession that the market demands."

($1 = 0.9122 euros)

Source: Reuters

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Zi Cheng

Traders' Opinions

Economic

In December, American employers exceeded expectations by hiring a greater number of workers and simultaneously increased wages at a robust pace. This has led to uncertainty regarding financial market predictions that the Federal Reserve would initiate interest rate cuts in March.

The unemployment rate for November 2023 was 3.7% where economists were predicting the rate for December to be 3.8% which is an increase, negative for the Dollar. The actual turns out to be 3.7% which is the same as previous and lower than the economists' expections. It was a huge positive impact for the dollar.

Besides that, Non Farm Payrolls data was also released for the month December 2023. Previously, NFP was 199,000 for the month November, economists were expecting a much lower data of 170,000 which is bad for the Dollar. Surprisingly, the actual data, 216,000 came out higher than previous and forecast. Whenever we see the actual data higher than previous and forecast, expect to see some huge candlestick in the markets.

NFP Impact Highlighted By Red Box

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Justin

Economic

December’s jobs report showed employers added 216,000 jobs for the month while the unemployment rate held at 3.7%. Payroll growth showed a sizeable gain from November’s downwardly revised 173,000. October also was revised lower, to 105,000 from 150,000, indicating a slightly less robust picture for growth in the fourth quarter.

U.S. Payrolls Increased by 216,000 in December, Much Better than Expected_1

Economists surveyed by Dow Jones had been looking for payrolls to increase 170,000 and the unemployment rate to nudge higher to 3.8%.

A more encompassing unemployment measure that includes discouraged workers and those holding part-time jobs for economic reasons edged higher to 7.1%. That increase in the “real” unemployment rate came as the household survey, used to calculate the unemployment rate, showed a decline in job holders of 683,000.

The report, along with revisions to previous months’ counts, brought 2023 job gains to 2.7 million, or a monthly average of 225,000, down from 4.8 million, or 399,000 a month, in 2022.

U.S. Payrolls Increased by 216,000 in December, Much Better than Expected_2

Markets reacted negatively to the report, with stock market futures sliding and Treasury yields sharply higher.

The hiring boost came from a gain of 52,000 in government jobs and another 38,000 in health care-related fields such as ambulatory health care services and hospitals. Leisure and hospitality contributed 40,000 to the total, while social assistance increased by 21,000 and construction added 17,000. Retail trade grew by 17,000 as the industry has been mostly flat since early 2022, the Labor Department said.

On the downside, transportation and warehousing saw a loss of 23,000.

The report showed that inflationary pressures, despite receding elsewhere, are still prevalent in the labor market. Average hourly earnings rose 0.4% on the month and were up 4.1% from a year ago, both higher than the respective estimates for 0.3% and 3.9%.

U.S. Payrolls Increased by 216,000 in December, Much Better than Expected_3

Futures markets also reacted, lowering the odds of a March rate cut from the Federal Reserve to about 55%.

“Today’s report speaks to the bumpy road ahead for the Fed’s journey back to 2% inflation,” said Andrew Patterson, senior international economist at Vanguard. “The decision of when to first cut policy rates remains one for the second half of the year in our view.”

Friday’s data adds to the case that the U.S. economy continues to defy expectations for a slowdown, despite an inflation-fighting campaign from the Fed that has produced 11 interest rate hikes since March 2022 totaling 5.25 percentage points, the most aggressive monetary policy tightening in 40 years.

At their December meeting, Fed officials released projections that indicate they could enact three quarter-percentage point interest rate cuts this year. Markets, though, expect the central bank to be more aggressive, with futures traders pricing in up to six cuts.

The belief that the Fed can start cutting is fueled by the view that inflation will continue to recede after peaking at a 41-year high in mid-2022. Inflation is still above the Fed’s 2% target but has been making steady progress lower since the increases began.

However, Friday’s report could challenge the market narrative of a substantially easier Fed.

“Jobs growth remains as resilient as ever, validating growing skepticism that the economy will be ready for policy rate cuts as early as March,” said Seema Shah, chief global strategist at Principal Asset Management. “Indeed, the recent run of labor market data generally points in one direction: strength.”

Economic growth has held solid after consecutive negative-growth quarters to start 2022. Gross domestic product is on track to increase at a 2.5% annualized pace in the fourth quarter, according to the Atlanta Fed’s GDPNow real-time tracker of economic data.

Consumers have been resilient as well. Holiday spending likely hit a record this year, rising 5% to $222.1 billion, according to projections by Adobe Analytics.