The Federal Reserve may lower the rate on its support facility for money market funds to help ease ongoing pressures in short-end credit markets, according to strategists.
While the Money Market Mutual Fund Liquidity Facility has been up and running for two weeks as part of a suite of measures to unclog markets, some signs of tension persist. The London interbank offered rate for dollars -- a benchmark for trillions of dollars of financial products -- remains at elevated levels, despite some easing.
Signs of strain are also evident in the commercial paper market that’s awaiting the launch of a support program on April 14, with Friday marking the sixth straight day of zero issuance of longer-term AA financial paper. Until then, prime funds may remain concerned about redemptions and their liquidity positions due to the freeze in CP activity.
Bank of America Strategist Mark Cabana expects the central bank to lower the MMLF rate in coming weeks, while TD Securities strategists Priya Misra and Gennadiy Goldberg have noted issues around the rate and access to the program.
“We believe that the Fed should lower the MMLF rate to make it more attractive” and facilitate more secondary activity in commercial paper, Misra and Goldberg wrote.
What the strategists say:
- TD Securities (Misra and Goldberg)
- While MMLF has been accessed and prime fund outflows have declined, the gap between forward rate agreements and overnight index swaps has compressed only marginally and is reflective of strains in funding conditions in CP
- Usage of the MMLF is relatively small and is partly linked to MMLF rate of 125 basis points being too high but “it could also be due to offshore funds not being able to access the MMLF program”
- Bank of America (Cabana)
- It’s likely the Fed will lower the MMLF rate in coming weeks to 50 or 75 basis points; such an adjustment could come when the central bank rolls out the CPFF
- Any Fed disappointment would tighten funding conditions “in an already fragile marketplace,” put upward pressure on June FRA/OIS
- JPMorgan (Alex Roever, Teresa Ho, Ryan Lessing, Colin Paiva)
- Declines in Libor hinge on Commercial Paper Funding Facility participation, or “to what degree issuers will borrow from the Fed at a backstop rate of OIS +110bps.”
- Because U.S.-issued domestic and foreign paper are eligible to be pledged at MMLF, “we suspect 1.25% becomes a soft floor for Libor,” as investors would “likely be inclined to purchase CP at a yield above 1.25% to ensure they can sell that back to the dealer when they need it for liquidity”
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