Mario Draghi, Collateral Scarcity, And Why The ECB Will Soon Buy Corporate Bonds

While Mario Draghi was most certainly not the star of yesterday’s ECB presser, he did say something some pretty ridiculous things about bond scarcity. Here’s a rundown:

• DRAGHI SAYS WORRY ABOUT BOND SCARCITY `LITTLE EXAGGERATED’
• DRAGHI SAYS CONCERNS ABOUT BOND SCARCITY PREMATURE
• DRAGHI: CONCERNS ABOUT BOND SCARCITY NOT SUPPORTED BY EVIDENCE

We guess there’s a certain extent to which talk of scarcity is a “little exaggerated” and/or “premature,” in the same kind of way in which talking about a shortage of Japanese ETFs in the context of BoJ purchases is a bit premature because the central bank doesn’t yet own them all. But just because you don’t yet own all of something doesn’t mean you are not making something scarce kind of like just because you can still get water out of the faucet in California doesn’t mean there’s not a drought, and if one key indicator of scarcity in credit markets is the degree to which certain issues trade special then Draghi is either ignoring the “evidence” or he doesn’t know what evidence of scarcity looks like. In fact, as we showed on numerous occasions last month, bund market depth was impaired within a week of PSPP’s inception and as HSBC noted earlier today, there’s a certain element of common sense here that seems to have escaped Draghi:

Via Bloomberg:

“Strange” that ECB doesn’t see evidence of collateral shortage when German general collateral rates are near record lows, Subhrajit Banerjee, strategist at HSBC, writes in client note.

1Y repo rate for bunds is close to -32bps, inversion of GC curve is at extreme level

Academic studies suggest inversion of GC curves gives strong signal that bulk of securities are likely to trade special in near term

Similarly, here’s JPM from last month:

The first issue of collateral shortage can be seen in the collapse of GC repo rates to negative territory since the beginning of last week for terms of greater than 3 months. 

And here’s Barclays:

Furthermore, we do not expect the Eurosystem’s securities lending to limit the richening of the GC rates that is largely driven by supply/demand imbalances. We believe that strong demand for high-quality collateral induced by regulation (also preferred to cash, which is charged at a negative rate) and aggressive buying by the ECB in the context of low net supply of bonds should push core GC rates well below the deposit facility rate, which in our view will not be a floor for rates. Therefore, we see still room for a further richening of core GC rates as well as front-end yields both outright and versus Eonia.