Fed to End Covid-19 Capital Break It Gave Wall Street Banks

NEW YORK(Capital Markets in Africa) — The Federal Reserve will let a significant capital break for big banks expire at month’s end, denying frenzied requests from Wall Street that it extend the relief to mitigate any impacts to the financial system and the $21 trillion Treasury market.

The reprieve that was granted last April — a response to coronavirus that allowed lenders to load up on Treasuries and deposits without setting aside capital to protect against losses — will expire March 31 as planned, the Fed said in a Friday statement.

Though the regulator has concluded the threat that Covid-19 poses to the economy isn’t nearly as severe as it was a year ago, the agency also said that it’s going to soon propose new changes to the so-called supplementary leverage ratio, or SLR. The goal is to address the recent spike in bank reserves that has been triggered by the government’s economic interventions during the pandemic.

The expiration of the temporary capital break may disappoint banks and bond traders, as many industry analysts had wanted the Fed to push the deadline out at least another few months, especially since the Treasury market has seen recent volatility. But Fed officials think the market is sufficiently stable and banks’ capital is high enough to return to the pre-pandemic requirement while the agency considers long-term changes.

“Because of recent growth in the supply of central bank reserves and the issuance of Treasury securities, the board may need to address the current design and calibration of the SLR over time to prevent strains from developing that could both constrain economic growth and undermine financial stability,” the Fed said Friday.

OCC, FDIC
Central bank officials provided no details on possible modifications, but did say they don’t want the industry’s overall capital levels to change. The Fed added that it will work with the other banking agencies: the Office of the Comptroller of the Currency and the Federal Deposit Insurance Corp. Those regulators also announced Friday that they will let the temporary relief end March 31.

The agencies’ decision means big banks such as JPMorgan Chase & Co., Citigroup Inc. and Bank of America Corp. must soon return to their customary SLR — a measure of their capital against all their assets.

“It’s a mistake,” Priya Misra, global head of rates strategy at TD Securities, said in a Bloomberg Television interview. “I don’t think the market was ready for this relief to be removed.”
The KBW Bank Index fell 2.6% at 9:43 a.m. in New York, with all 24 companies in the index slumping. SVB Financial Group had the biggest decline among members, with a 4.2% drop, while Bank of America, JPMorgan and Wells Fargo & Co. all slipped about 3%.

The 10-year Treasury yield rose to the day’s high after the announcement, as many Wall Street strategists speculate the end of the regulatory break will induce some banks to shed Treasuries. The benchmark borrowing rate hovers at about 1.74%.

The Fed did provide another recent consolation, though, by more than doubling to $80 billion the maximum overnight reverse repo activity a participant can execute through the central bank’s facility. That could absorb some of the pressure of too much government stimulus cash sloshing through the system by giving money market funds a place to put it.

‘Foaming Runway’
As Credit Suisse Group AG’s Zoltan Pozsar put it this week, the Fed is “foaming the runway” to deal with the stress of going back to the existing leverage rule by giving banks an additional ability to direct deposits into money market funds. Fed officials said Friday that move was a monetary-policy decision and not directly related to the leverage limit.

For the past year, that relaxed leverage cap had allowed the lenders to take on as much as $600 billion in extra reserves and Treasuries without bumping up their capital demand. The banks could now be under pressure to shed some of those assets or seek more capital.

JPMorgan has said it might consider turning away certain deposits as a result. And some Treasury market strategists expect a hit to the market as the biggest lenders potentially sell holdings.

Source: Bloomberg Business News