Posts filed under “Think Tank”

10 year note auction

The reopening of the 10 year note auction was solid as the yield was 4 bps lower than where the when issued was trading and the bid to cover of 3.28 was well above the one year average of 2.31 and at the highest level since at least 1994. This also comes in the context of yields being 60 bps lower than the June reopening auction, thus not dissuading the buyers. The rollover in the stock market and large drop in commodity prices certainly brought out the buyers as risk aversion trumped inflation concerns, $ weakness, government finances and quantitative easing.

Category: MacroNotes

Rate hike odds

Coincident with the pullback in most markets over the past few weeks on doubts with the robustness of the 2nd half global economic recovery, the fed funds futures have been pricing in lowered odds of a fed rate hike by year end. Odds of a 25 bps hike to .50% by December is near 20%…Read More

Category: MacroNotes

8,893 “Bill Millers”

> I am especially pleased to present today’s Think Tank piece by James Bianco. Jim has run Bianco Research out of Chicago since November 1990. He has been producing fixed income commentaries with a circulation of hundreds of portfolio managers and traders. Jim’s commentaries have a special emphasis on: money flow characteristics of primary dealers,…Read More

Category: Index/ETFs, Investing, Think Tank

Show Me The Shoots or we’ll see a bath tub shaped recovery

Show Me The Shoots, the green shoots that is. It is what every investor is watching and looking for as we begin Q2 earnings season, with guidance being of the utmost importance. The shape of the 2nd half recovery will hopefully get some clarity. Since I believe consumer spending will remain punk, if inventory restocking…Read More

Category: MacroNotes

King Report: More Goldman Intrigue

> FT’s Alphaville published the resume of Serge Alevenkov, the indicted Goldman programmer: VP, Equity Strategy Goldman Sachs (Public Company; GS; Investment Banking industry) May 2007 — Present (2 years 3 months) • Lead development of a distributed real-time co-located high-frequency trading (HFT) platform. The main objective was to engineer a very low latency (microseconds)…Read More

Category: Think Tank

Rising Delinquencies Revive Credit Concerns, Hit Markets

Good Evening: The U.S. equity markets took another shot to the chin today when rising delinquencies for Home Equity Lines of Credit reminded investors just how important and impactful will be the rising rate of unemployment to our economy going forward. Known as HELOCs among credit cognoscenti, home equity lines join prime mortgages and credit…Read More

Category: Markets, Think Tank

What if the Fed were a Bank?

What if the Fed were a Bank?
By Bob Eisenbeis and David R. Kotok
July 7, 2009

Bob Eisenbeis is Cumberland’s Chief Monetary Economist. Prior to joining Cumberland Advisors he was the Executive Vice President and Director of Research at the Federal Reserve Bank of Atlanta. Bob is presently a member of the U.S. Shadow Financial Regulatory Committee and the Financial Economist Roundtable. His bio is found at

David R. Kotok is the Chief Investment Officer of Cumberland Advisors.


Abstract: Our joint commentary identifies two risk measures—capital ratios and duration—which may be helpful in assessing outcomes of the Fed’s exit strategy. We have avoided a fully prepared technical paper and admit that the issues are complex for many of our readers. To assist readers, we have divided this paper into two parts. The first part describes the Fed’s balance sheet in terms that are more commonly understood because they are applied to banks. Of course, we know that the Fed is not a bank. We choose the bank as a reference since it is the basis now for many federal programs. We demonstrate that if the Fed were a bank it would be capital constrained. In the second and more technical part, we use McCauley duration to measure the risk building in the Fed’s new balance sheet construction. We estimate that a 1% upward parallel shift in the yield curve could render the Fed technically insolvent, if it had to mark to market as a bank is required to do.

If the Fed were a bank and had to live up to the same capital requirements as the institutions it regulates, would it be adequately capitalized? This may seem like an absurd question. After all, a central bank can’t go bankrupt. This is especially true for the Federal Reserve, whose balance sheet historically has been quite simple compared to even that of a moderately sized bank.

Until recently, the Fed’s assets consisted primarily of US Treasury debt, typically with relatively short maturities. There was no credit risk and the Fed usually didn’t engage in the buying and selling of those assets. Rather, it bought and held them to maturity. This strategy provided the justification for the Fed not to mark those assets to market as interest rates changed.

Open market operations were usually conducted using repurchase agreements (RP) and reverse repurchase agreements (RRP), where securities were temporarily sold (bought) with an agreement to buy (sell) them back to the holder at an agreed-upon price. These RP transactions were normally done for overnight or for three-day maturities. They served to decrease or (increase) the outstanding supply of Federal Funds, which are the cash reserves banks trade among themselves. Most importantly, they determined the overnight Fed Funds rate, which was the primary instrument of Fed policy. They also linked the Treasury securities market to the Federal Funds market, because Treasury securities were used in the RP transactions.

Until the recent crisis, the Fed’s liability structure consisted mainly of currency held by the public (Federal Reserve notes), deposits held by member banks in the form of excess and required reserves, and deposits of the US Treasury. Currency accounted for about 90% of the Fed’s outstanding liabilities. Individual notes roll over as they wear out, but they are simply replaced with new ones. The total currency outstanding volumes fluctuated slightly with changes in the demand for cash. Cash demanded by the public includes foreign demand and what was needed in automated teller machines (ATMs).

Currency is effectively a permanent source of funding for the Fed, and its maturity is nearly infinite. Until just recently, none of the reserve deposits paid interest. Of course, cash pays no interest. So the currency component of the Fed’s balance sheet has a zero cost of carry.

Today, the Fed holds a wide range of loans and other assets acquired as part of its efforts to combat the financial crisis. The financing of those assets has also changed. As a result, the Fed’s balance sheet is not so simple and is now exposed to a significant amount of both credit and interest-rate risk.

The Fed just released a consolidated balance sheet as of May 27, as part of a new monthly report on “Credit and Liquidity Programs.”1 The report lists consolidated Federal Reserve System assets at $ 2.082 trillion and total capital at $45 billion. This implies a capital-to-assets ratio of 2.16%., which would also be the Fed’s tangible equity capital ratio. Keep in mind that the Fed’s target tangible equity capital ratio for banks is 4%.

Read More

Category: Federal Reserve, Markets, Think Tank

3 year note auction

Following an almost 50 bps drop in yields over the past month, the $35b 3 year auction was mixed. The yield was almost 3 bps above where the when issued was trading just prior. On the other hand, the bid to cover was good at 2.62 (but below the level of the June auction) and…Read More

Category: MacroNotes

The King Report: Goldman’s Magic Software

> We are stunned – no, we’re shocked, shocked over the following admission from an Assistant US Attorney about the theft of Goldman’s proprietary trading codes. Bloomberg: At a court appearance July 4 in Manhattan, Assistant U.S. Attorney Joseph Facciponti told a federal judge that Aleynikov’s alleged theft poses a risk to U.S. markets. Aleynikov…Read More

Category: Think Tank

A recession proof business? Money printing

Comments today from the British Chambers of Commerce highlight the favorable backdrop, in my opinion, for hard assets/commodities as they call on the Bank of England to print more money. Not only do they want the BoE to complete its current asset purchase plan but “they should go beyond 150b pounds” as while the “worst…Read More

Category: MacroNotes