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Day 1 after liftoff: Fed move catapults money market rates

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(Bloomberg) — After the Federal Reserve raised its benchmark interest rate for the first time in almost a decade, the Day 1 follow-through in money markets shows the policy move looks to be working: The overnight U.S. dollar London interbank-offered rate has fixed at the highest since 2009.

Intercontinental Exchange Inc. posted Libor —the benchmark rate that leading banks charge each other for short-term loans — at 6:45 a.m. in New York at 0.3614 percent, the highest since March 31, 2009. The rate is up from 0.1315 percent a week earlier at 0.0852 percent at the end of last year.

“The market is certainly on track” in responding to the Fed’s policy, said Aaron Kohli, a fixed-income strategist in New York for BMO Capital Markets, one of 22 primary dealers that trade with the Fed and are obligated to bid at Treasury auctions. “It looks like rates are moving fairly well. Broadly, the Fed should be fairly effective in draining excess reserves and that should put pressure on the front-end rates.”

The Fed funds rate opened Thursday at 0.35 percent, compared to the 0.14 percent open Wednesday, according to ICAP Plc, the world’s largest inter-dealer broker. Funds traded between 0.08 percent and 0.55 percent Wednesday, according to data posted to the New York Fed’s website this morning.

The Federal Open Market Committee Wednesday unanimously voted to set the new target range for the federal funds rate at 0.25 percent to 0.5 percent, up from zero to 0.25 percent.

GCF Rate

The general collateral Treasury repurchase-agreement rate, a gauge of such transactions between dealers, traded at 0.47 percent at 8 a.m. in New York, up from the close Wednesday of 0.35 percent, according to ICAP. The average rate for all GCF repo on Wednesday was 0.4 percent, according to a Depository Trust and Clearing Corp. index.

In an overnight repo, borrowers take cash from counterparties and post securities as collateral, and then unwind the trade the next day. Repo rates have been climbing this week ahead of the start of Fed tightening and amid the normal year-end volatility in money markets, as dealers shore up balance sheets.

Reverse Repos

In the Fed’s policy action Wednesday, the central bank increased the interest it pays on its overnight reverse repos to 0.25 percent from 0.05 percent to put a floor at the lower end of the range and temporary removed the cap on the aggregate size of the daily facility. It also raised the interest it pays on excess reserves held at the Fed to 0.5 percent from 0.25 percent to mark the upper end of the range.

The Fed’s willingness for the time being to boost its reverse-repo facility, previously capped at $300 billion per day, means all the operations will come at the new fixed rate of 0.25 percent and ensures that should keep private repurchase agreement rates from dipping below that level.

Fed reverse repos are conducted with the central bank’s primary dealers as well as money market mutual funds and serve to drain excess liquidity from money markets. Thursday’s results will post on the Federal Reserve Bank of New York’s website at 1:15 p.m. New York time.

Effective Rate

As the central bank’s monetary policy contraction starts gearing up, traders will watch out for Friday morning, at about 8:00 a.m. New York time, when the first post-liftoff federal funds effective rate print is published.

The effective rate is based on trades the previous day and is the main rate the Fed is targeting. The central bank’s plan is to have it float now between 0.25 percent and 0.50 percent.

–With assistance from Matthew Boesler and James Holloway.


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