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Analysis: ECB faces pressure to unlock bonds and avert market squeeze

  • Bankers worry drought of German bonds
  • Raise fears of market squeeze at yr finish
  • Clamour for extra lending from Bundesbank
  • Counterparty restrict seen as largest constraint

FRANKFURT, Nov 25 (Reuters) – The European Central Bank is coming beneath pressure from bankers to lend extra of its stash of German authorities bonds to avert a market squeeze that will undo a few of its personal stimulus efforts.

As the most secure debt within the area, Germany’s sovereign bonds are the lifeblood of European monetary markets and essentially the most coveted collateral for guaranteeing trades at clearing homes.

But there aren’t sufficient of them to fulfill demand within the 8.3-trillion-euro ($9.3 trillion) market for repurchase agreements, or repos, the place buyers swap money for bonds.

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This is as a result of the ECB – largely by way of Germany’s Bundesbank – has hoovered up almost a 3rd of German public debt in an effort to assist the euro zone economic system since 2015 and, with renewed impetus, throughout the COVID-19 pandemic.

Having drained the markets with its multi-trillion-euro debt-buying programmes, the ECB has left fewer bonds sitting on sellers’ stability sheet and accessible to be borrowed on the repo market.

Investors are at present paying 0.99% to borrow German bonds towards money for 2 months, implying a 7% fee for bonds lent on Dec. 31 for the next Monday, knowledge on Refinitiv Eikon exhibits. Borrowing the debt for 2 months price 0.6% two months in the past.

So bankers are clamouring for the ECB, and notably the Bundesbank, to lend extra of its bonds to avert a drought which might price them dearly and may even push some into default.

“If a major bank or fund cannot meet its obligation towards a central clearing counterpart, the CCP must place it in default which triggers defaults at all other CCPs,” stated Godfried De Vidts, a senior advisor to the International Capital Market Association commerce physique.

Ironically for the ECB, the scarcity of German bonds accessible to be borrowed dangers inflicting funding markets to seize up, making credit score dearer and going towards the spirit of the central financial institution’s easy-money coverage.

German bonds commerce at their highest premium to swaps because the top of the pandemic and spreads on company bonds have began two widen, albeit from very tight ranges.

Spreads between 2-year Euribor and Germany’s Schatz

This may flip right into a headache for the ECB because it weighs how to wind down its pandemic-fighting programme in December with out upsetting monetary markets.

“If I were working at the ECB, given the lack of monetary policy levers available to me, I’d make sure the market is as little distressed as possible,” Peter Chatwell, a strategist at dealer Mizuho stated.

The concern has been effervescent within the background for years nevertheless it has blown out in current days on investor concern a couple of German bond pinch round year-end when issuance falls and banks shrink their stability sheets to meet regulatory calls for.

The ECB doubled the quantity of bonds that the 19 central banks of the euro zone can lend towards money to 150 billion euros from 75 billion euros final week.

But analysts say this isn’t fixing the issue as a result of banks are operating towards a constraint on what number of bonds they will borrow.

This is a safeguard that central banks have in place to minimise the danger they take and to incentive debtors to flip to the market as a substitute.

“The counterparty limit is the real problem,” Giuseppe Maraffino, a hard and fast revenue strategist at Barclays Investment Bank, stated.

“If we were to see more transactions failing, we think the Bundesbank and the other euro area central banks could consider raising the counterparty limit, at least temporarily.”

Spread of the Iboxx index of AA-rated company bonds over benchmark

($1 = 0.8909 euros)

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Reporting By Francesco Canepa; Editing by Emelia Sithole-Matarise

European Union (EU) flags fly in front of the European Central Bank (ECB) headquarters in Frankfurt, Germany, December 3, 2015. REUTERS/Ralph Orlowski/File Photo

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Spread of the Iboxx index of AA-rated corporate bonds over benchmark

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