LTRO – a New Acronym to Learn, and Important to Watch Tomorrow as Some Call it the Reason for Today’s Rally
Courtesy of Mark Hanna of Market Montage
Ahhhh…acronyms. The latest in the 4 year litany of acronyms is LTRO. And you better know what it means before tomorrow: Long Term Refinance Operation.
Remember how the market sold off hard a few weeks ago as Mr. Draghi of the ECB poo-poo’d (sp? lol) the speculator’s favorite object: quantitative easing (QE)? Well he did announce a plethora of secondary supports. The one catching people’s attention today is LTRO. Why? Spanish yields on short term debt plunged this morning.
- On Tuesday, the Spanish Treasury sold 3.7 billion euros of 3-month paper for 1.735 percent, after an average yield of 5.11 percent in November, at a bid-to-cover ratio of 2.9, up from 2.8.
- The 6-month bill sold for an average yield of 2.435 percent, down from 5.227 percent, with 1.92 billion euros sold and demand outstripping supply by a factor of 4.1, after 4.9 a month earlier.
Those are huge drops. I didn’t take much heed to it, but the reasoning behind why this might have happened could be another in a line of epic ‘kick the can moments’.
In ‘simple language’ that even I can understand it appears the 3 year funding facility the ECB announced a week and a half ago, could be the means for a new carry trade. Essentially borrow from the ECB at ultra low rates (1%), and use those monies to (wait for it) buy even more Club Med debt at high interest rates – and make the spread. For example you can make 0.735% on that 3 mo Spanish paper you bought today… or 1.435% on that 6 mo paper. Of course this would not work for paper over 3 years old, but as the auctions above show, it might already be working wonders on the short end of the maturity curve.
Do you see the brilliance here? While it solves nothing other than shuffling debt around… it allows the ECB (which is currently not allowed to buy debt directly from governments) to be a middle man – they offer the money, the banks take it, and the banks send the junky debt back to the ECB as collateral. So in the end the Club Med debt finds its way back to the ECB’s balance sheet – just using a middle man. This has Geithner/Bernanke fingerprints all over it.
Now the pushback against this theory are a few items. #1 why would banks already chock full of debt buy more and take on risk? And #2 what happens if the debt gets downgraded – there are risks there. The first point is harder to argue, but the latter is easily explained away. The ECB relaxed its requirements whenever needed for Greece and Portuguese debt – so even “downgraded” bonds are good enough for the central bank (very similar to what the Fed did in QE1 when just about anything with a pulse could be dumped on Ben’s lap).
Anyhow tomorrow we have our first results of how much the banks accessed this facility – in this case bigger is better. The more borrowing the more the “risk on” trade is back on (baby)!
Again does this solve anything? Nope. Does it help earnings which are slowing across the globe? Nah. But does it kick the can? And is perception everything in the market (at least in the near term)? Yes. So LTRO is your new acronym. Study up tonite.
Read up more on the subject here at WSJ Marketbeat blog.
And a story on Bloomberg here. When I come back in another life, I want to be a bank – every government institution and central bank wants me to thrive and make money in my sleep.
The European Central Bank is set to flood euro-area banks with cheap cash as they flock to its offer of three-year loans today.
Banks will ask the ECB for 293 billion euros ($384 billion) of the 1,134-day funds, according to the median of 14 forecasts in a Bloomberg News survey of economists. Estimates range from 150 billion euros to as much as 600 billion euros. The money will be lent at the average of the ECB’s benchmark rate — currently 1 percent — over the period of the loan. Results are due at 11:15 a.m. in Frankfurt and the loans start tomorrow.
“This is basically free money,” said Jens-Oliver Niklasch, a strategist at Landesbank Baden-Wuerttemberg in Stuttgart. “The conditions are unbeatable. Everybody who can will try to get a piece of this cake.”
Disclosure Notice
Any securities mentioned on this page are not held by the author in his personal portfolio. Securities mentioned may or may not be held by the author in the mutual fund he manages, the Paladin Long Short Fund (PALFX). For a list of the aforementioned fund’s holdings at the end of the prior quarter, visit the Paladin Funds website at http://www.paladinfunds.com/
Follow up here: Massive Demand for LTRO, as 523 Banks Request a Total of 489B Euros ($641B)
