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Treasurys Held In Custody At The Fed Jump By Record $63 Billion In One Week

Back on March 31 (and two days before the WSJ covered a topic we have been discussing since 2012 namely the acute and ever worsening shortage of "high quality", primarily in the form of Treasury, collateral and its impact on the repo market), we pointed out something disturbing: the overnight General Collateral rate soared by the most ever, doubling overnight to 0.38 bps.

This may not sound like much but in a environment flooded with trillions in excess reserves it shouldn't happen, and even when taking quarter end window dressing into consideration, there really should be no such discontinuities. If anything, such a jump due to quarter end suggests that despite all the regulatory push, banks remains undercapitalized with quality assets as ever.

Worse, on the day after, following quarter end, GC dropped but not nearly as much as it should have in the New post-window dressing Normal, when GC declined from 0.4% to 0.25% on April 1. With the market closed on Friday we were unable to get a gauge if this collateral shortage has persisted well into April although Monday's reading will provide a much needed glimpse if the occasional collateral shortage has now gone systemic.

What we do know, however, following Thursday's H.4.1 update by the Fed, is that, inexplicably, in the week ended April 1, the amount of Treasurys held in custody by the Fed jumped by the most ever, or $63 billion in one week, to $2.963 trillion.

This is peculiar because in recent years the general trend when it comes to Fed custody holdings has been one of unchanged if slightly declining notionals. In fact, the last time there was such sharp moves up (or down) in custody holdings was in March 2014 when as previously reported, Russia dumped several billion in US paper, perhaps accompanies by a change in its collateral manager. One has to go back all the way to November 2011, when the Fed stepped in yet again with global liquidity swaps to once again bail out the world when Europe was days if not hours away from a complete liquidity disintegration.

This is what a record scramble to hand over one's Treasurys to the Fed's "safekeeping" looks like in chart format:


Is there some major asset realignment going on behind the scenes to provoke this record move? According to CRT strategist Ian Lyngen, the increase in UST holdings is “remarkable... it’s notable the week included the settlement of the recent 2-, 5-, 7Y auctions as well as month-, quarter-, and Japanese fiscal year-end.” He added that "the number is large enough for us to suspect there is more at play than simply outright buying - perhaps a major transfer of custodianship to the Fed."

If true, the question is why shift away from the alternative, which most likely is Belgium's Euroclear, and who instigated it?

But more importantly, this latest development adds yet one more variable in the calculus of collateral shortage, because whatever the reason behind the custodial surge, absent a dramatic drop off in Monday's GC rate, it is virtually a given that the collateral squeeze and the jump in holdings is related. If so, will the Fed release some/all of these custody holdings into the open market via Repo to mitigate the shortage, or is there something more at play here?

Keep a close eye on both the tightness in next week's repo market as well as next Thursday's Fed balance sheet update, as such sharply volatile moves in the US Trasury complex are hardly a precursor to future stability in the world's biggest bond market.