New money market fund rules have coaxed foreign banks to boost their presence in a crucial US funding market, helping to alleviate tension that can arise as institutions clean up their balance sheets at the end of the financial quarter.
The US “tri-party” repo market, where banks borrow cash from investors in exchange for collateral such as US Treasuries, has increased in size from $1.2tn in April 2016 to $1.5tn last month, according to data from the New York Fed.
The growth comes after more stringent rules introduced in 2016 on so-called prime money market funds have encouraged investors to re-allocate money into safer, government money market funds, with non-US banks operating under a looser capital rule known as the “leverage ratio” meeting the demand, said Alex Roever, an analyst at JPMorgan.
Japanese, French and Canadian banks have led the charge, with BNP Paribas, Nomura, Crédit Agricole and RBC top of the list, according to Crane Data. Nomura has had the most dramatic increase in trading with money market funds, elevating its outstanding trades from $14.8bn at the end of July 2016 to $50.5bn at the end of July 2017.
“The large US banks are not expanding or contracting their repo business,’’ said Mr Roever. “But there are smaller competitors, and several large foreign banks, that don’t have the same capital constraints that the large US banks have and because of that they are able to be more opportunistic.”
Quarter-end squeezes are also dependent on supply and demand characteristics for repo collateral, but the larger role of foreign banks in the market is helping ease the usual scramble for Treasury paper, particularly from money market funds, which mark the end of a financial quarter.
In recent years, demand for Treasury bills, at the turn of a quarter and particularly the end of the year, has been exacerbated by less support for repo transactions, blamed in part on tougher capital requirements imposed on US banks in the wake of the financial crisis.
The issue has garnered the attention of global regulators, with a committee chaired by New York Fed president Bill Dudley concluding that the tendency of banks to pull back from the market around reporting dates could pose a risk during periods of stress.
Signs of funding pressure on Friday, as the third quarter drew to a close, were absent from the market, said Scott Skyrm, managing director at Wedbush Securities.
The Federal Reserve’s reverse repo programme, which typically sees high demand from money market funds at quarter-end due to banks pulling back, took in its lowest quarter-end volume since July 2016.
“There has been no stress whatsoever,” said Mr Skyrm. “It’s the opposite.”
The new money market fund rules have caused prime fund assets to fall from more than $1.3tn to less than $443bn since the beginning of 2016, while government fund assets have risen from $1.2tn to $2.2tn over the same period.
It has created demand from government funds looking to invest new assets and one way they do that is through the repo market.
Japanese banks had previously relied on prime money market funds buying their short-dated debt called commercial paper so that they could raise dollar funding. As that market has shrunk they have been pushed to look elsewhere, with repo seen as one solution.
Analysts said French and Canadian banks have been more opportunistic, entering the market to meet higher demand and benefiting from higher returns, rather than a need for dollar funding.