Fed's Potter Says Trading Desk Preparing for Bond Sales Ahead of Time
20 October 2016 - 6:10AM
Dow Jones News
Federal Reserve Bank of New York markets chief Simon Potter said
Wednesday that the stimulus efforts in the wake of the financial
crisis, known as "quantitative easing," were conducted successfully
without market disruptions. But he said the central bank is
reviewing the complexities involved with selling assets it acquired
through QE, given its narrower experience there, and the potential
for purchasing additional agency bonds if needed.
Mr. Potter's remarks, at a conference about monetary policy
implementation in the long run at the Minneapolis Fed, come as the
U.S. central bank has been contemplating the next chapter of its
monetary policy framework, despite its guidance to market
participants that bond sales aren't anticipated soon.
"Given the Federal Reserve's experience in the agency [mortgage
bond] market over the past eight years, it is important to consider
what role—if any—agency MBS transactions may have in the policy
implementation tool kit of the future," said Mr. Potter in the
speech.
Mr. Potter said the New York Fed's trading desk is preparing
itself for "a wide variety of scenarios" well ahead of time,
"including sales or the need to purchase additional agency MBS."
This is necessary because of the changing liquidity dynamics in the
bond market and specialized trading needed to ensure smooth sales
when needed, he said.
The Fed expanded its balance sheet through large scale
bond-buying programs since the 2008 collapse to stimulate the
economy and financial markets. One in November 2008 was designed to
support mortgage and housing markets. Another launched in September
2012 was focused on lowering interest rates to ease broader
financial market conditions.
Now having loaded up on bonds, the Fed is reinvesting principal
payments on agency mortgage bonds on the central bank's behalf back
into those same mortgage bonds. Its experience with buying bonds
after the crisis suggests those programs "have been successful,"
said Mr. Potter, but he said the Fed's experiencing with selling
them is "limited to a few small value exercises."
Away from the U.S., central bankers have expanded their
large-scale asset purchases beyond sovereign bonds to privately
issued corporate debt and asset-backed securities, maneuvers not
open to the U.S. central bank under the Federal Reserve Act.
"Central banks that are currently buying nonsovereign
assets…have a similar lack of experience with sales," said Mr.
Potter.
The Fed hasn't signaled its intentions to provide new stimulus
by purchasing nonsovereign bonds, but Mr. Potter nevertheless said
the idea has merit and would typically require a central bank to
learn more about participating in those new markets. He said the
concept was useful as a backdrop, even though the U.S. Treasury
market where the Fed currently is the deepest and most liquid
market in the world, with few capacity hurdles.
"The purchase of nonsovereign assets can be helpful by providing
additional channels for monetary accommodation to be realized,"
said Mr. Potter. "Further, having additional markets to operate in
can help central banks overcome functional limitations that could
exist if they were restricted to [asset purchases] in only one
market."
When the Fed was buying huge piles of Treasurys under its
bond-buying programs following the financial crisis, it was able to
purchase them quickly without affecting market functioning, Mr.
Potter said. The Treasury market is a $13 trillion market.
The agency mortgage market is the second most liquid, at $5.7
trillion, and is deeper than most foreign sovereign debt markets
with an estimated $200 billion in daily trading volume, Mr. Potter
said. The New York Fed purchased $34.5 billion of those agency
mortgage bonds in July alone, across thousands of individual
securities.
"The Federal Reserve maintains a regular presence in the agency
MBS market, with near daily purchase operations," as it reinvests
monthly payments of principal on its existing holdings, he said.
The Fed hasn't guided market participants that it anticipates
selling agency mortgage bonds, "other than potentially to eliminate
residual holdings."
Write to Katy Burne at katy.burne@wsj.com
(END) Dow Jones Newswires
October 19, 2016 14:55 ET (18:55 GMT)
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