Has Wall Street got its mojo back? Bankers are hoping so. Slight rallies in the high-yield bond and leveraged loan markets over the past week, and some indications of a thaw in inter-bank lending, lend credence to the view. But banks and brokerages continue to elbow for a place at the FederalReserve’s punch bowl. With its resources shrinking, the central bank needs to start thinking about when to end the party.
That won’t be easy. Demand in the Fed’s auction of $50 billion (Rs2 trillion) of 28-day loans under its term auction facility on Monday was unexpectedly strong. In fact, the ratio of the dollar amount of bids submitted to the amount of loans on offer, called the bid/cover ratio, came in at 1.83, slightly higher than at the Fed’s last auction on 24 March—and that was during the scramble for quarter-end funding.
The Fed’s 28-day repo auctions, in which investment banks can participate, have also seen a renewal of interest. When the first auction under the so-called term securities lending facility took place on 27 March, many took comfort from the fact that the bid/cover ratio was a mere 1.15—reflecting low demand. That meant brokerages didn’t appear in particularly dire straits. But the bid/cover popped up to 1.9 at an auction on 3 April.
The repo programme, collateralized by a wide range of bonds, and the Fed’s other injections of liquidity have reduced its treasury bond holdings as a percentage of its overall assets to about 67% in recent months, compared with a high of nearly 90% in 2006. If its treasury bond inventory continues to plummet, the Fed’s ability to intervene in a crisis could be compromised. Better to let Wall Street know it has to keep up efforts to secure funding elsewhere—helping ensure the punch bowl is replaced before it runs dry.