“Not Systemically Threatening”

Posted On Sep 17, 2019 By Dave Gonigam

  • Fed just did something it hasn’t done since 2008 crisis
  • $53.2 billion to keep the system’s gears lubricated (time to worry?)
  • Saudi crude production recovering, war drums still beating
  • Recession? U.S. industry humming along for now
  • Are the feds getting serious about gold manipulation?
  • Golden toilet — er, museum piece — stolen!

The Federal Reserve just came *this* close to losing control of short-term interest rates. And yes, that’s as scary as it sounds.

The trouble started yesterday in the market for repurchase agreements — “repos” in finance lingo. The big banks and hedge funds rely on the repo market to finance their trading, tapping billions of dollars in a day.

The interest rate on repos is supposed to stay closely pegged to the fed funds rate set by the Federal Reserve. For the last six weeks, the Fed has set that rate in a range between 2–2.25%.

Yesterday morning the repo rate soared to more than 4%, according to Bloomberg data. This morning, it sailed past 8%.

There was nothing that unusual yesterday to trigger such an anomaly. It was the IRS deadline for quarterly estimated taxes. It was settlement day for recent auctions of Treasury debt. It was a trading holiday in Japan.

All of those might have squeezed the available supply of money for lending and borrowing. To be sure, there’ve been other liquidity squeezes in recent years; we documented one episode in early 2016.

But a reaction this extreme? The jump is “bordering on chaos,” a rates strategist at BMO Capital Markets told Bloomberg.

And with that, the Federal Reserve Bank of New York is staging an intervention — the first of its kind since the Panic of 2008.

At 10:10 a.m. EDT, the New York Fed conducted its own repo transactions to the tune of $53.2 billion. The aim — to bring the repo rate back in line.

Basically the Fed lent cash to “primary dealers” against Treasury securities or other collateral. Primary dealers are the 24 big banks and trading firms required to show up at Treasury auctions in exchange for a host of special privileges with the government and the Federal Reserve.

At last check the repo rate is back down to 2.5% — still a little high relative to a fed funds rate set between 2–2.25%, but close enough for government work.

So why the need for extreme action now and not anytime in the past decade?

It’s complicated, but it goes back to the most recent debt-ceiling farce in Washington. Recall that Uncle Sam couldn’t add to his debt pile between March and July this year, forcing the Treasury to resort to “extraordinary measures” to stay under the ceiling.

“Ever since the debt ceiling was lifted, Treasury auction volumes have surged,” says colleague Dan Amoss, who works closely with our Jim Rickards. “The banks already have tons of Treasuries on their balance sheets that they have yet to resell to clients. And now they’re running up against regulatory limits for the amount of Treasuries they can hold.

“Those limits have led to tighter liquidity in the Treasury market that the Fed realized yesterday had to be alleviated to achieve its target policy rate.”

In addition, the Fed painted itself into a corner.

As you might recall, the Fed blew up its balance sheet fivefold to rescue the banks after 2008, buying Treasuries and mortgage-backed securities — “quantitative easing,” as it was known.

Starting in January of last year, the Fed tried to reverse that process with quantitative tightening. The Fed effectively withdrew $700 billion in liquidity from financial markets…

… before aborting the effort on July 31 at its most recent policy-setting meeting.

As Dan explains, “It turns out that the banks needed a lot more liquidity (in the form of reserves) to conduct their derivatives and market making operations than was thought just a year ago.”

The timing of the emergency repo today couldn’t possibly be worse for the Fed — at the start of a new policy-setting meeting.

At the end of the meeting tomorrow, Fed Chairman Jerome Powell is sure to face awkward questions from reporters about why this step was necessary, and why now.

He’ll probably say something like what an economist from Jeffries told Bloomberg within the last 24 hours: “This is certainly painful for firms that have to fund positions. So it’s difficult for the dealer community. But it’s not systemically threatening.”

“Not systemically threatening.” We’re going to file that one away for future reference.

Crude is pulling back hard with word that Saudi Arabia’s oil production might be back online sooner than expected.

Reuters cites “two sources briefed on developments” as saying the kingdom is close to restoring 70% of the production lost after the attacks on key oil facilities early Saturday morning.

At last check, a barrel of West Texas Intermediate is down 4.5%, a hair above $60.

Still, the rush in Washington to blame the attacks on Iran continues to gather speed.

So what about the possibility of all-out war and a return to $100-a-barrel oil?

Big Media is egging on the president to launch a war against Iran. Really, what else are you to conclude from this?

Yet the little evidence revealed so far undercuts the Iran-did-it case. Buried in a New York Times story playing up the official line was this sentence: “The satellite photographs released on Sunday did not appear as clear-cut as officials suggested, with some appearing to show damage on the western side of the facilities, not from the direction of Iran or Iraq.”

At this stage, a war against Iran would doom the president’s reelection chances.

Every recession going back to the 1973 oil shock was either preceded or accompanied by a big jump in oil prices. Crude was $43 at the start of this year and as noted moments ago is at $60. Even a jump to $80, much less $100, could tip the economy into recession. Surely the president knows this.

He also knows he was elected on a platform that included no more “stupid wars” in the Middle East. And the administration hasn’t done much to whip up public sentiment against the regime in Tehran the way Bush did with Iraq’s Saddam Hussein and Obama did with Libya’s Muammar Gaddafi.

That said, we’re only weeks away from the 40th anniversary of the U.S. embassy takeover in Iran and the start of the hostage crisis — which might serve up some good propaganda opportunities for Trump’s war hawks.

“Divided again: The War Party is giddy with excitement over the prospect of war with Iran, while the nation does not want another war,” Pat Buchanan writes in his latest column.

“How we avoid it, however, is becoming difficult to see.

“John Bolton may be gone from the West Wing, but his soul is marching on.”

There’s no recession in sight, judging by the latest industrial production figures.

This important economic indicator was looking punk for months, but the August report looks positively perky. Industrial production — a broad figure incorporating manufacturing, mining and utilities — jumped 0.6% for the month. And the manufacturing component jumped 0.5%, way more than expected.

All told, 77.9% of the nation’s industrial capacity was in use during August — a healthy increase from July’s 77.5% and the strongest figure since March.

One month never tells the whole story, but the slump in U.S. industry has been arrested for the moment.

While the credit markets have been turned upside down, the stock market looks positively sleepy today.

At last check, the Dow and the S&P 500 are slightly in the red, the Nasdaq slightly in the green. Gold is holding the line on $1,500.

The feds have found a few more fall guys for the epidemic of precious-metals price manipulation.

Yesterday the Justice Department charged two current and one former executive with JPMorgan Chase for involvement in a “massive, multiyear scheme to manipulate the market for precious metals futures contracts and defraud market participants.”

The details of the indictment affirm some of the details we shared last month in our gold-manipulation episode of The 5: The shenanigans began more or less when JPMorgan Chase took over the collapsing Bear Stearns in 2008.

Prosecutors are hinting more is to come — not least because they’re resorting to the RICO statute to make their case. That’s the anti-racketeering law passed in 1970 to go after mobsters. As Bloomberg puts it, the use of RICO “suggests that JPMorgan may face deeper legal jeopardy that goes beyond the individuals who have already been prosecuted.”

Might the feds actually go after Blythe Masters, who ran JPM’s Global Commodities unit from 2007–2015?

For gold bugs who really want justice done, Ms. Masters is public enemy No 1. (She left JPM in 2015 to apply her considerable financial skills to… cryptocurrency. You can’t make this stuff up.)

Now for a 5 follow-up we didn’t see coming: Someone stole the golden throne.

It was three years ago we told you about the debut of an artwork at the Guggenheim in New York — a fully functional toilet made of 18-karat gold, installed in one of the museum’s public restrooms. The melt value — over $1 million.

The work is the brainchild of the Italian artist and sculptor Maurizio Cattelan, who titled it America. The Guggenheim described the exhibit’s objective as “making available to the public an extravagant luxury product seemingly intended for the 1%.”

Fast-forward to last month and the luxe loo was installed for display at Blenheim Palace, birthplace of Winston Churchill and now a museum.

Sometime late Friday or early Saturday, thieves managed to rip the toilet from its plumbing and make off with it — setting off a big flood that shuttered the museum all day Saturday.

Museum management has itself to blame. A few days earlier Edward Spencer-Churchill — a distant relative of ol’ Winnie — was asked about the potential for thievery.

“It’s not going to be the easiest thing to nick,” he told the Sunday Times. “Firstly, it’s plumbed in, and secondly, a potential thief will have no idea who last used the toilet or what they ate. So no, I don’t plan on guarding it.”

Back to the attack on Saudi Arabia’s oil industry as we turn to the mailbag…

“Regarding your list of three ‘realities’ nobody wants to talk about, there’s a fourth that’s probably more likely.

“Trump generally has shown a predisposition to withdrawing or at least decreasing U.S. involvement in the stupid wars in which we are entangled. Someone probably bombed Saudi fields who wants to keep the U.S. involved in the Saudi/Yemeni conflict.

“Every time Trump (and Obama before him) talks about drawdown in some war, missiles or chemical weapons fly and it’s always difficult to determine who launched them.

“But the timing is suspicious and the effect is always to reinvigorate U.S. and/or European involvement and inflame anew public outrage. It’s called counterespionage.

“Many people think it’s conspiracy material, but this method of manipulation has been around a very long time. There are people who stoop to such atrocities, often against innocents, to achieve their objectives.”

The 5: Entirely possible, but no one’s presented compelling evidence yet.

It makes no sense for the Iranian regime to do it; the mullahs have exercised great care and discretion in how they respond to Washington’s provocations ever since Trump walked away from the nuclear deal 16 months ago.

But the Houthis in Yemen? Reporting in The Wall Street Journal earlier this year indicates they’ve developed the capacity to pull it off. And Lord knows they’ve got nothing to lose…

Best regards,

David Gonigam

Dave Gonigam
The 5 Min. Forecast

P.S. “Might you consider listing the 145 companies whose CEOs wrote to Congress demanding stricter gun control?” a reader inquires. “Then each reader can carry it from there.”

Sure. Here’s a link to the letter.

Only about 50 of the companies have more than 500 employees. But a couple of them are eye-openers beyond the ones we previously mentioned…


Other Articles In 5 Min. Forecast