What in the World is Going on in the Securities Markets?

Something has gone haywire in the Government Securities Markets. This is apparent to everyone, but especially to those who follow the Markets closely.

Most of the media attention is focused upon the Stock Market, which has been cascading lower at a significant pace.

Dow Jones Industrial Average

For those watching the Market closely, they are aware that the Government Securities Market took an extremely peculiar turn on Monday and Tuesday of this week.

After reaching an all-time low yield of 0.38% on Monday afternoon, the Market began to increase and has remained relatively stable at around the 0.75% - 0.80% level.

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This made absolutely no sense, given the rapidly escalating concerns about the coronavirus and the increasing probability of additional Fed action at their March 18th meeting. So there must be some other force or dynamic at play which is not necessarily obvious. After some detective work, I think that I may have discovered two, actually.

The first is the fact that the TBA Market became so jammed up with bid requests at the end of last week and the first of this week, that dealers were no longer willing to maintain the very low spreads that had been prevailing up until that point. Therefore, we saw a significant decline in Mortgage Backed Securities prices, causing a discernible increase in Offering Yields on these products yesterday and today.

More generally, what could have caused such a shift in the Government Securities Markets?  Going back to Econ 101, we had a dramatic shift in both the "Supply & Demand Curves."  Apparently, many large corporations such as Boeing has drawn down on their entire $13.8bil term loan (it seems that there is a significantly reduced demand for aircraft compared to just a month ago). Likewise, there are many other industries that are also seeing reduced demand for their products and services - think Hilton International, Cruise Lines, and eating establishments.

As these various very large corporations have drawn down, or even maxed out, their credit lines (think 10's or 100's of billions of dollars) many of the very large banks have had to sell securities to accommodate these funding requirements. This is to say nothing of what is occurring in the "oil patch." This probably explains, at least in part, why the Fed took the extraordinary action (another form of quantitative easing?) that they did at mid-day today.

There is good reason to believe that this is a 1X, or nearly 1X, adjustment. Therefore, the Yields in the current market should be more reliably reflective of representing "value" in the current Market Place. In fact, that is probably the case. However, with such dramatic action on the part of the Fed (the Market is anticipating 50bps to 75bps of Fed Funds reductions next week). There remains the possibility for surprise in either direction, as the Fed announces their decision next Wednesday.

Unfortunately, many of these same issues have the potential for impacting your bank. There are many economic assumptions that were essentially unchallenged just a month ago that must be re-examined, given the current facts on the ground, although much of this may be more true in metropolitan areas.

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