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Markets Show Signs of Stress as Debt Crisis Drags On

The debt impasse in Washington has some concerned about cash moving out money market fundsand in turn, creating stress in the short-term liquidity market.


There are signs of stress appearing in the commercial paper market and it appears to be related to the redemptions being experienced by the money market funds,” says David Greenlaw, Morgan Stanley’s Chief U.S. Fixed Income Economist. “It’s creating a liquidity shortfall in the commercial paper market.” Left unchecked, he says could lead to a liquidity squeeze in the commercial paper markets.

Market watchers know that we have been before. One facility created during the financial crisis in 2008 to backstop short term liquidity issues was the Commercial Paper Funding Facility (CPFF). Has the Fed approached Morgan Stanley, a primary dealer about reopening the fund? “No,” says Greenlaw.

Other short-term funding markets are reacting as well.

George Goncalves, Head of U.S. Rates Strategy at Nomura Securities is focused on widening spreads in the repo market — what he calls the “bloodlines for primary banks.”

“If the money markets shrink their exposure to repo lines, that could lead investment banks to start to sell Treasurys or they have to find another place to fund those treasuries.” People are scared he says. “The wounds are still open from 2008.”

If things get worse, Goncalves points to another facility spawned during that 2008 crisis that could make sense for what ails the markets today — the Term Securities Lending Facility (TSLF). Created to promote liquidity, the TSLF was closed on February 1, 2010.

But, it’s different this time: There is more concern about sovereigns, less about corporations and more experience to deal with the fallout. And, there is also a sense in the markets that the debt-ceiling crisis will be addressed by Congress. Nobody panic. But, at the same time, nobody wants to be caught short and one of the reasons, Goncalves says, is that corporations are sitting long cash.

Markets are moving, spreads are widening, corporations are playing defense when they should be playing offense. “This is the kind of news that you need to relay to get action from Congress,” he says.

Vegetable soup, anyone?