The effects of the Dodd-Frank Act are beginning to have repercussions in the Treasuries market as U.S. banks began to hoard Treasury bonds thus putting a strain on the repo market. This strain was present on Friday April 8th and Monday April 11 when the 6-month T-Bill touched an all time record low yield of 11 bps and the 3-month T-Bill touched a 13-month low yield of 3 bps.
This Treasury desert amounted to about $40 billion on Friday raising the anxiety level for future higher borrowing costs for money market funds and their respective investors. The rule was implemented by the FDIC on April 1st and forced many large banks to refrain from lending out their Treasury Holdings thus eliminating bank arbitrage opportunities thanks to the plentiful Treasury bond supply constraint collateral from the Fed’s $600 billion bond buying program.
Before April 1st banks would typically lend out their Treasury holdings in the overnight Treasury repo market and take those proceeds and leave them at the Fed which paid them some interest on the reserves. Some large banks would also borrow funds from GSE’s such as Fannie Mae or Freddie Mac in the Fed-Funds market and park them in the Fed to earn a little higher spread. Although, these unintended consequences seem to be short term while markets become accustom to the rule, this past week’s yield lows had some effects in profitability for large money market funds around the world.
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