How convenience yields have compressed real interest rates

November 3, 2018

Real interest rates on ‘safe’ assets such as high-quality government bonds had been stationary around 2% for more than a century until the 1980s. Since then they have witnessed an unprecedented global decline, with most developed markets converging on the U.S. market trend. There is evidence that this trend decline and convergence of real rates has been due prominently to rising convenience yields of safe assets, i.e. greater willingness to pay up for  safety and liquidity. This finding resonates with the historic surge in official foreign exchange reserves, the rising demand for high-quality liquid assets for securitized transactions and the preferential treatment of government bonds in capital and liquidity regulation (view previous post here).

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The macroeconomic impact of Basel III

November 19, 2016

The regulatory capital reform for banks increases capital costs and credit spreads charged on clients. However, it also clearly reduces the tail risk of future banking system crises. And these crises have historically subtracted on average about 100% of an annual GDP overtime. Hence, a BIS paper finds that long-term growth benefits outweigh costs. One implication may be that once capital adjustment is complete and higher capital ratios are firmly established regulation headwinds for equity and credit markets turn into tailwinds.

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The role of macroprudential policy

December 5, 2015

Macroprudential measures are often seen as a counterweight to ultra-easy monetary policy in the developed world. BIS research cautions against this expectation. Macroprudential policies are largely new and untested, have worked best as a complement (not offset) to monetary policy, and focus on specific sectors, such as banking and housing.

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The impact of regulatory reform on money markets

May 25, 2015

A new CGFS paper suggests that bank regulatory capital and liquidity changes may [i] reduce liquidity in money markets, [ii] create steeper short-term yield curves, [iii] weaken bank arbitrage activity, and [iv] increase reliance on central bank intermediation. Profit opportunities may arise for non-banks.

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Bond market liquidity risks

December 13, 2014

A new CGFS study suggests that [i] bond market makers’ risk tolerance and warehousing have declined and [ii] tighter risk management has augmented pro-cyclicality of liquidity. A gap seems to have opened between more precarious liquidity supply and more voracious liquidity demand, due to rising assets under management at funds that allow daily redemptions.

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Regulatory tightening: the basics and the basic risks

September 13, 2014

Financial regulatory tightening implies to some extent mutation of systemic risk. Thus, elevated bank capital requirements raise incentives for regulatory arbitrage and shadow banking. Liquidity regulation and OTC derivatives reform inflate holdings of government securities and help accommodating high public debt. And the emergence of central banks financial stability mandates and macroprudential policies may create misplaced confidence in crude and untested macro management tools. 

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The Federal Reserve’s reliance on macroprudential policy

July 5, 2014

In a recent speech Federal Reserve Chair Yellen has emphasized the economic cost of making financial risk a key consideration of monetary policy. While accommodative and non-conventional monetary policy may boost risk taking, enhanced regulation should secure financial system resilience and contain excesses. Only when macroprudential policy cannot achieve that goal should monetary policy step in. That time would not be now.

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How banks have adjusted to higher capital requirements

March 23, 2014

Capital regulation reform requires banks to hold a much higher ratio of core capital to risk-weighted assets, taking some toll on lending and economic activity. An empirical analysis by the BIS suggests that the process is well under way. Mathematically, most of the adjustment has been achieved through retained earnings. However, in developed countries also lending spreads have increased, credit growth growth has slowed, trading assets have declined, and the share of higher risk-weighted assets has fallen.

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Concerns about bank assets’ risk weights

December 21, 2013

Hagendorff and Vallascas argue that the risk weights used to calculate banks’ capital adequacy fall significantly short of true portfolio risks. Capital arbitrage may have undermined Basel II capital regulation and could do the same for Basel III in the future.

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Macrosynergy is a London based macroeconomic research and technology company whose founders have developed and employed macro quantamental investment strategies in liquid, tradable asset classes, across many markets and for a variety of different factors to generate competitive, uncorrelated investment returns for institutional investors for over eighteen years. Our quantitative-fundamental (quantamental) computing system tracks a broad range of real-time macroeconomic trends in developed and emerging countries, transforming them into macro systematic quantamental investment strategies. In June 2020 Macrosynergy and J.P. Morgan started a collaboration to scale the quantamental system and to popularize tradable economics across financial markets.

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