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Fed Tackles End-of-Quarter Funding Angst by Extending Repo Plan

Alexandra Harris and Liz Capo McCormick

(Bloomberg) -- The Federal Reserve Bank of New York announced a series of overnight and term operations for the next three weeks, signaling that it has control over this vital corner of the financial markets.

The New York Fed said it will conduct overnight repurchase agreement operations daily Monday through Friday until Oct. 10. The Sept. 23 operation will be for as much as $75 billion, while the actions thereafter will be for at least that amount. Separately, it will also conduct three 14-day term operations for an aggregate amount of at least $30 billion on Sept. 24, Sept. 26 and sept. 27, according to a statement.

“The Fed just reminded the market that they have complete control over the front-end if and when they want it,” said BMO Capital Markets strategist Jon Hill. “Given the volatility we saw this week, they want to ensure quarter-end goes as smoothly as possible.”

There were immediate signs of easing concerns after a tumultuous week in which funding costs spiked to record levels. Swap spreads widened, showing that worries over dealers’ financing costs were ebbing.

“This is a more concerted effort to ensure confidence in the market that the Fed will do what is necessary to quell serious volatility in the repo market and consequently the policy rate,” said Jonathan Cohn, strategist at Credit Suisse. “The market reaction shows it has had a significant positive reaction, with the sharp widening of the two-year swap spread.”

The announcement of the operations going forward followed the New York Fed’s fourth straight day of injections of overnight liquidity on Friday as it sought to ease a funding crunch that rippled through markets in previous days.

Surges in the repo rate normally occur only at quarter-end and sometimes month-end. This mid-month jump was attributed to a confluence of events that knocked cash reserves in the banking system out of balance with the volume of securities on dealer balance sheets: a corporate tax payment date, settlement of last week’s Treasury auctions, and last week’s bond-market sell-off, in which investors sold securities back to dealers.

The New York Fed injected another $75 billion Friday through an overnight repo operation. That followed actions of the same size on Wednesday and Thursday, and $53.2 billion on Tuesday, with each of these prior agreements rolling off the morning after they’re completed.

Temporary Add

The actions, commonplace in pre-financial crisis times, temporarily add cash, with the Fed taking government securities as collateral. Wall Street bond dealers submitted about $75.6 billion of securities for Friday’s action, lower than the previous two days’ levels.

The latest addition of liquidity follows the Federal Open Market Committee’s move Wednesday to reduce the interest rate on excess reserves, or IOER, by more than their main interest rate -- all attempts to quell money-market stresses.

The moves have calmed the funding market, with repo rates declining to more normal levels after soaring to 10% Tuesday, four times last week’s levels. Overnight general collateral repurchase agreement rates remained steady Friday, trading around 1.9%, according to ICAP.

Fed Vice Chairman Richard Clarida, speaking Friday before the announcement of the forthcoming operations, said the repo-market strain isn’t a concern for the economy and that the central bank acted decisively to address the issue. Chairman Jerome Powell said Wednesday that he was confident the New York Fed’s actions would contain funding problems. Former New York Fed President William Dudley echoed that view in an editorial published Friday.

The Fed effective on Thursday was 1.9% -- within the central bank’s target rate range of 1.75% to 2%. That compares to 2.25% on Wednesday, and 2.3% Tuesday -- when it busted above the top of the Fed’s previous target band, before policy makers lowered borrowing costs on Wednesday.

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--With assistance from Edward Bolingbroke.

To contact the reporters on this story: Alexandra Harris in New York at aharris48@bloomberg.net;Liz Capo McCormick in New York at emccormick7@bloomberg.net

To contact the editors responsible for this story: Benjamin Purvis at bpurvis@bloomberg.net, Debarati Roy, Mark Tannenbaum

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