US Federal Reserve Likely to Replace the General Capital Conservation Buffer with the Stress Capital Buffer Determined by the Stress Tests for Specific Firms

The US Federal Reserve Board has announced that it intends during 2017  to make more changes in bank capital requirements based on the stress testing process.  The Stress Capital Buffer (SCB) will replace the current Capital Conservation Buffer (CCB).

The CCB had been set at 2.5%. The SCB will be set for specific firms based on the outcome of the Comprehensive Capital Analysis and Review (CCAR) stress tests for each but will have a 2.5% floor.  It will apply for  the 2018 CCAR.

The Comprehensive Liquidity Analysis and Review (CLAR) liquidity stress tests, which test both direct and systemic funding shocks, will also be considered.  Research may eventually allow an integrated CCAR and CLAR stress.

The expected effect of this development is that for banks with assets less than USD250 billion, the quantitative portion of the CCAR will cease and their capital requirements will reduce somewhat.

 The capital requirements of the eight US G-SIB banks will however increase significantly as the G-SIB Surcharge will remain.

 

 

US Treasury Office of Financial Research (OFR) Publishes Money Market Fund (MMF) Monitor

The Office of Financial Research (OFR) (a department of the US Treasury) has published new research "OFR Monitor Shows Accelerating Shift to Government Money Market Funds".  

This includes a new US Money Market Fund (MMF) Monitor site which shows the detailed breakdowns of the MMFs by:    Region, Country, Sector, Credit and Asset Type.

It shows significant declines this year (approx USD 700 billion) in the size of total Prime MMFs, which can buy non-Government paper including bank paper.  The OFR attributes the shift to the Oct. 14, 2016, deadline for implementing Securities and Exchange Commission (SEC) reforms.

 

This is balanced by a similar growth in Government MMFs.  These MMFs can continue to redeem at par but are unable to invest in bank paper.

 

It is further corroboration that, in line with policy intentions since the crisis, another means of maturity transformation has been curtailed successfully - this time by the SEC.

Previously, banks could raise term funding (up to a year) from MMFs who were funded by investors who wanted (and thought they got) an at par, on demand, money market investment.

This has increased LIBOR especially for longer terms through this year.

More Evidence of the Effect of Imminent Money Market Fund (MMFs) Reforms on Term Funding for Non-US Banks

In the funding markets, institutional money market AUM and term deposits at foreign banks decline as US money market regulation looms. Treasurers are often not permitted to put cash into instruments that have a floating NAV - which is what will happen to prime money funds. Prime money funds, on the other hand, bought CDs or CP from foreign banks who need dollars. As institutional treasurers pull out of prime funds, foreign banks lose this source of dollar funding.

Source: Deutsche Bank

Imminent Money Market Fund (MMF) Reforms are Already Raising LIBOR Rates - Especially for Longer Terms

LIBOR rates have risen as a result of the SEC reforms of the regulation of Prime MMFs effective October 14 2016 as reported by Bloomberg.  Funds are already moving out of Prime MMFs to alternatives such as Government only MMFs which are less affected by the new regulations. 

This is beginning to restrict what has been a major alternative source of funding for banks, especially funding which is less affected by the liquidity regulations such as LCR.

Many banks previously raised funding by selling substantial amounts of their CDs and CP to Prime MMFs. Some banks even swept excess investor deposits daily to Prime MMFs.  Given the new regulations, many of these investors, will no longer allow this.

The rise in LIBOR is considerably higher for longer term funding which has liquidity (both market and regulatory) benefits.

The mCD is an new class of bank term deposit, which has the same liquidity benefits as longer term funding, but at a lower cost.

Survey of Investors Indicates Prime Money Market Funds (MMFs) are Less Attractive once SEC Reforms are Operative October 14

Treasury Strategies:
Corporate Survey of Plans for Using Money Market Funds, May 2016

SEC reforms, effective October 14, 2016, will impose floating Net Asset Values (NAV) and redemption gates on Prime MMFs.

When surveyed investors were what their plans were, after the new SEC regulation’s October 14 effective date:

  • 42% plan to discontinue using Prime MMFs, at least initially
  • 28% are undecided
  • 30% plan to continue investing in Prime MMFs

With the decline of MMFs and the ultra-low even negative yields of demand bank deposits, there is a clear call for a new par value cash investment.  

The mCD is just such an instrument.

Why Aren't Banks Built More Like Bridges?

When we drive or walk over a bridge do we think it might collapse? Do we think it would collapse with extreme weather or heavy traffic? We know many have and experience teaches us to never-say-never. But I suspect we also think this is a negligible risk for the bridges we use on daily basis - bridges that have withstood decades or even centuries of stress providing a seamless journey from A to B. From the Romans and the Victorians to today’s civil engineers, these feats of intellectual and material prowess make our life easier and provide a visual achievement that are synonymous with some of the greatest cities.

Can we say the same about banking?