Reverse Repo: A Fed Catastrophe in the Making & Loss of Interest Rate Control

One of the tools the Federal Reserve utilizes to constrain interest rates are Repurchase Agreements. This are know as Repo and Reverse Repo facilities. Reverse Repo allows the Federal Open Market Committee (FOMC) to effectively create an interest rate floor by offering participants Fed assets to purchase for a typically short period of time with the agreement to purchase the securities (typically Treasuries) back and paying the participant interest for doing so. These actions are carried out by the New York Fed Open Market Trading Desk. As the Effective Funds rate climbs, the amount paid in interest must increase for a floor to be maintained as use of this facility means there is likely too much liquidity in the system. However, there are some potential catastrophic effects from the high current utilization of this facility. The Fed is well aware of this risk but will hold it back as long as possible to avoid a panic.

[@duran9664]

🤯🤯🤯How did u move that smoothly from adorable cats videos to reverse repo time bomb video? 🤯🤯🤯

[@RealAsItGetz92]

Awesome video Chris! I really enjoyed your insights here and your chill commentary style. Retail needs you. Looking forward to more

[@mannysingh4715]

dude ur really good, think u might have found ur calling with these economic/financial video...hope to see more

[@chrisw.3077]

That’s very kind, thank you. Might have a few new videos coming soon.

[@wanderingknight10]

Amazing explanation!!!

[@F0XX3r]

Can we hang out man? You seem like an awesome guy to enjoy a beer and an in-depth conversation with

[@dummyburn5350]

Can you do a video on the dollar milkshake theory?

[@toomanyjoes9751]

Is there some requirement for the Fed to continue to accept money from money markets etc. for this program? It seems as though raising interest rates to fight inflation will only exacerbate the problem you describe so the only way to prevent the numbers from colliding is to restrict the amount of money they are taking in.

[@grantpreston1391]

I’m not sure if there is a requirement, but what he is saying is that this is there only control. The option you present about preventing the amount of money they accept, would lead to a similar result in them not being able to have an interest rate floor and thus losing interest rate control. Atleast that’s how I interpreted this.

[@bryantgingrich7141]

Do reverse repos in any way take the Fed’s level of assets down? Are they in any way considered off balance sheet? Is there any accounting trick in repos or actions with primary dealers that hides the actual level of assets/securities the Fed actually has at any given time?

[@chrisw.3077]

Reverse repos are not off balance sheet in the traditional sense, but the Fed’s accounting is odd. The Fed seems to only display their holdings in terms of face value while the true market value is materially less given the losses in their bonds and MBS holdings. While I wouldn’t say there are tricks, there is a certain level of misdirection employed to keep people from realizing how fragile the system is. Things can be pieces together to give one a pretty decent idea of how things really are, but it takes a lot of digging.

[@admobandy4821]

You were/are spot on. Do more economy content :)

[@chrisw.3077]

Thanks! Any topics in particular you’d like to see?

[@admobandy4821]

@@chrisw.3077 Good question, I'm keen on watching the dollar at the moment.

[@blueobject]

Great explanation. What do you think now after 3 months and core cpi seemed to have come down. A lot of people seem to think inflation will double top because people can't stop their thirst for spending and lending and as you put it the Fed can't start QT without causing more inflation. They are basically trying to buy time IMO. They are hoping fear does the job. Based on all this it sounds like 20y 30y bonds can still go way lower? I was thinking $tlt would be a good investment but maybe not yet?

[@honestlyidk702]

Something I’m still confused about and hoping to get clarification. This all makes sense, Bank lends to fed, fed gives treasury note to bank, and then next morning fed returns the money plus interest and gets back their treasury note. How ever why is that draining money if the bank gets the money the next morning how is 24hrs going to shrink the banks balance? I really can’t grasp how People say it’s to reduce the money supply if the money is going right back to the bank within 12-24hrs?

[@mannysingh4715]

Its giving them incentive to keep it in the system...ie...don't lend it out to real economy

[@Flomo112]

So reverse repo is for cash only? I don’t see how this is going to keep inflation down because the fed needs to create interest payments

[@savusilviu]

Can the FED drop the reverse repo award (currently at 0.8% on tradingview) without dropping the fedfunds rate? What I mean by this is to flood the market with liquidity in order to bail it out in case of a uncontrollable down spiral? Kinda to mitigate against the growing fat tails we have at the moment in the bell curve

[@chrisw.3077]

In the case that commodities started crashing with stocks/bonds and it was pretty clear inflation was severely dampened, the Fed would probably drop the Fed funds rate to zero and the RRP reward to zero as well. However, I don’t see things getting bad enough for intervention until we’re sub 3000 on the S&P. All the banks and most investment managers have seen this coming so I just don’t see a 2008 situation happening.

[@philiptalbert458]

Do they have infinite loanable securities? Ex. Fed buying government debt.

[@lcarrascomontero]

Fed could pay more interest on bank deposits so money flows from MMF to Bank Reserves.

[@chrisw.3077]

The Fed doesn’t decide what interest is paid on bank deposits. It is a well known issue that banks do not pass it through. There are additional issues here but it’s not worth the time to expand further.

[@thorstenroberts4726]

Why is the 1 month treasury yield below the Reverse Repo Rate? if a bank can get a guaranteed 1.55% annualized from an ultra liquid, ultra safe reverse repo, why would anyone buy a 1 month treasury? who is buying them still? (foreign central banks?)

[@nancycampbell1314]

I don't think this is a real issue. These 2 numbers will not approach each other because Primary Dealers can rehypothecate Treasuries. Thus, 1 Treasury can be reused over and over - as much as 7 or more times (this has been done in the past) for each Repurchase Agreement contract. Jeff Snider has even opined these Treasuries can be rehypothecated as much as 20 to 30 times. Does this fact change your analysis? Thanks.

[@chrisw.3077]

Nancy, if this is your takeaway, you’re not understanding the fundamentals of this facility. You’re taking one piece of information you’ve heard that has nothing to do with anything here and square-pegging it. watch the video or visit the reverse repurchase section of the Fed website until you actually understand what is going on here. The limit of the size of the facility is clearly stated.

[@nancycampbell1314]

@@chrisw.3077 Not attacking you. None of the information you presented was new to me except for the insight about the 2.1 trillion reverse repo number and the total Soma numbers approaching each other. This is it honest and sincere question. How do you run out of Treasuries if you can re-hypothecate them? I will go ahead and read the Fed website but if you have the quick answer that would be helpful. Honestly just trying to learn. No need for any hostility.

[@chrisw.3077]

@@nancycampbell1314 “I don’t think this is a real issue” is why you got the response you got. You have no basis for your thinking and I mentioned these types of comments in the video. Rehypothecation by primary dealers is not at issue here because PDs are not loaning out the treasuries in the RRP facility, the Fed is from SOMA. An account which is finite in size.

[@nancycampbell1314]

@@chrisw.3077 so reading the website was helpful because it appears that the feds ability to use the reverse repo program is limited by a dollar amount and not the number of treasuries outstanding. So the $ amount is the limit. Is that your understanding as well. Thanks for the reply.

[@chrisw.3077]

@@nancycampbell1314 see the above comment or watch the entire video.

[@aaronb.6794]

who do you think you are? I am

[@zeev]

why no narration whatsoever?

[@chrisw.3077]

I’m talking the whole time. No sound on your end?

[@zeev]

@@chrisw.3077 fixed thank you! amazing coverage. love your commentary. been reading up on the repo crisis from 3 summers ago, then they blamed covid on the march 2020 implosion so they could paper it over with trillions the game always changes. this is the kind of thing i expect someone like Mike burry to be on top of, but even he got tripped up on shorting tesla too early and then abandoning his convictions. right now I am watching the yen a lot and re-rereading alot about why the widowmaker keeps killing traders. the last 4 months of yen weakness may be signalling a devaluation of the yen to far lower levels. also , i enjoyed your carpet cleaner review : )