More on US Money Markets As a Channel of Contagion
News earlier this month that Moody’s was placing three French banks on review for a possible downgrade renewed investors focus on the potential contagion through US money markets. It appears that European banks secured dollar funding through issuance of commercial paper and other short-term instruments that US money market funds purchase.
Fitch estimates that 10 of the top 15 issuers of such short-term paper are European banks and Moody’s estimates that of over half of that is accounted for by French banks. There has been a net withdrawal from US money market funds and it appears that the funds have moved to strictly US Treasury or US high grade money market funds. This, coupled with new regulations/fees, and a reduction of bill offerings from the Treasury as it approaches its debt-ceiling, has weighed on US bill yields. The 4-week bill yield appears negative and the 3-month bill is at about 1 bp annualized yield, for example.
In addition, a large Spanish bank is reportedly experiencing difficulty in recent weeks funding itself in the US CP market. The amounts involved seem relatively modest compared to the bank’s balance sheet, but the tension is evident. Moody’s warning on Italian banks also pushes in the same direction.
These money market developments are consistent with another dimension to another issue we have discussed recently–the pressure evident in the basis swap (cost of swapping euros for dollars by European banks). These developments emanate from concerns about counter-party risk. This is consistent with market talk that some institutions are reducing some credit lines/exposures to European banks.
Banks appear to be responding by hedging/securing funding through yen swaps. Note that Japanese 3-month T-bill yield of 9 bp annualized is the lowest in nearly 5 years. In addition, the European banks may be more aggressive in borrowing from the ECB in its weekly facility. Last week’s operation saw a larger than expected take down of over 50 bln euros. This week’s operation may offer more insight.
This looks like a silent run on european banks, but especially the french banks. For quite some time I have had my concerns of the french and german banks, maybe the collapse of one of the big three french banks will be the trigger for the next credit crunch. Though I had always suspected it would be a german bank that would be vulnerable.
This will torpedo any idea that Greece will be able to refinance its debts to something long term that does not invoke a CDS tsunami. If the French banks are unable to refinance their Greek debts to a sustainable level for Greece then it will mean that Greece ultimately will have to default.
I recall some reports that the Federal Reserve had bought a considerably amount of European instruments to bail out European banks over the last year or so and that is ending. Also, the Chinese had bought a considerably amount too and there are mixed reports that the Chinese will continue that or end it.
Anyone know any details on the transactions between the Chinese and Fed and Europe?