Financial Regulatory Forum

Off Balance Sheet Repo Risks Come Back to Bite

By Christopher Elias

NEW YORK, Nov.16 (Business Law Currents) - Off balance sheet items and undisclosed liabilities are coming back to bite companies, as repo-to-maturity disclosures prove to be a jarring reminder of pre-crisis risk proclivity.

Symptomatic of a wider problem gripping U.S. banks, MF Global’s bankruptcy has drawn attention to the danger of financial services firms hiding their true liabilities, no matter how safe they think they are.

The revelation that MF Global’s off balance sheet leveraged repo-to-maturity play was stuffed full of toxic Eurozone debt proved to be its downfall. The prospect of a Eurozone default spooked markets and MF Global’s liquidity drained away. A review of U.S. banks’ SEC disclosures reveals, however, some troubling implications of the gaps in U.S. GAAP filings as the true nature of hidden debt exposure becomes apparent.  (more…)

from Christopher Whalen:

Did the FDIC really kill the repo market?

Back in April 2011, Jim Bianco penned a commentary, “Why The Federal Reserve May Have A Hard Time Raising Rates.” He argued that the increase in the FDIC insurance assessment rate for large banks adds to bank funding costs, and thus offsets the impact of Fed ease. Bianco and others infer a roughly 15bp tax or “wedge” on money market assets is created by the FDIC assessment rule.  By way of reference, the Fed’s target band for fed funds is 0 to 25bp but has been at low end of this range for months.

David Kotok of Cumberland Advisors subsequently wrote that the FDIC tax is offsetting the 25 bp paid to banks on Fed reserves and is effectively forcing U.S. banks out of the market.  (See my paper published by Networks Financial Institute at ISU, “What is a Core Deposit and Why Does It Matter?”, which goes into the changes to the deposit insurance made by the Dodd-Frank legislation.)

Let’s agree with the central contention of the “Bianco-Kotok Hypothesis” (or BKH), namely that the new FDIC assessment is affecting the money markets. But is this change the most compelling explanation for the alarming exodus of banks from the institutional credit markets?  Bianco’s research illustrates the collapse of yields in the securities repurchase (or repo) market since April, when the FDIC implemented the new deposit insurance assessment rules. He talks about the task the Fed faces to raise rates given the FDIC assessment:

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