Category Archives: Financials

QE or not QE?

That is the question that commentators and even bankers at JPM are answering, declaring that the Fed’s discount window is equivalent to QE. IMO this is incorrect. QE is the open market purchase of Treasury securities and agency MBS for the explicit purpose of supporting or raising the price of said securities, thereby manipulating interest rates. Borrowing at the discount window with Treasury or MBS collateral does not involve any purchase or sale of the securities, they remain as assets of the borrower. Therefore not QE, just the Fed acting as lender of last resort. The accounting is the same in principle as any secured debt.

It is true that the borrowing increases the Fed’s balance sheet, whence comes the yammering about QE. The debt is an asset to the Fed, a liability to the borrower. The proceeds of the debt are an asset to the borrower and a liability to the Fed (reserves). The borrower is provided with additional reserves – liquidity – but no “money” is created as Fed reserves are not included in either M1 or M2. The debt to the Fed is not a deposit.

No Sale

Apparently the FDIC has been unable to find a buyer for Silicon Valley Bank. Even after opening the auction to non-bank bidders. The reason is obvious. No-one wants the customer base that murdered the bank. What goes around comes around.

Powell On QE

Extract from the FOMC minutes 10/24/2012. Emphasis is mine:

MR. POWELL. Thank you, Mr. Chairman. So we have had Gary Cooper, the Most Interesting Man in the World, Bill Belichick, Woody Allen, and now Hamlet. [Laughter]

I support alternative B, to relieve the suspense. And as far as what is to be decided at the next meeting, it seems to me we should let it be decided at the next meeting. But I will say that if we have another good run of data, I think there would be a strong case to defer action. And I don’t see us as committed to act unless conditions warrant.

I have concerns about more purchases. As others have pointed out, the dealer community is now assuming close to a $4 trillion balance sheet and purchases through the first quarter of 2014. I admit that is a much stronger reaction than I anticipated, and I am uncomfortable with it for a couple of reasons.

First, the question, why stop at $4 trillion? The market in most cases will cheer us for doing more. It will never be enough for the market. Our models will always tell us that we are helping the economy, and I will probably always feel that those benefits are overestimated. And we will be able to tell ourselves that market function is not impaired and that inflation expectations are under control. What is to stop us, other than much faster economic growth, which it is probably not in our power to produce?

Second, I think we are actually at a point of encouraging risk-taking, and that should give us pause. Investors really do understand now that we will be there to prevent serious losses. It is not that it is easy for them to make money but that they have every incentive to take more risk, and they are doing so. Meanwhile, we look like we are blowing a fixed-income duration bubble right across the credit spectrum that will result in big losses when rates come up down the road. You can almost say that that is our strategy.

My third concern—and others have touched on it as well—is the problems of exiting from a near $4 trillion balance sheet. We’ve got a set of principles from June 2011 and have done some work since then, but it just seems to me that we seem to be way too confident that exit can be managed smoothly. Markets can be much more dynamic than we appear to think.

Take selling—we are talking about selling all of these mortgage-backed securities. Right now, we are buying the market, effectively, and private capital will begin to leave that activity and find something else to do. So when it is time for us to sell, or even to stop buying, the response could be quite strong; there is every reason to expect a strong response. So there are a couple of ways to look at it. It is about $1.2 trillion in sales; you take 60 months, you get about $20 billion a month. That is a very doable thing, it sounds like, in a market where the norm by the middle of next year is $80 billion a month. Another way to look at it, though, is that it’s not so much the sale, the duration; it’s also unloading our short volatility position. When you turn and say to the market, “I’ve got $1.2 trillion of these things,” it’s not just $20 billion a month— it’s the sight of the whole thing coming. And I think there is a pretty good chance that you could have quite a dynamic response in the market. And I would just say I want to understand that a lot better in the intermeeting period and leave it at that. Thank you very much, Mr. Chairman

After you’ve read this, do you think that Powell is in the least surprised by the consequences of raising rates? I don’t know what he will do, but I doubt that he will be deterred from whatever his strategy may be.

Go Woke, Go Broke

It is reported that Silicon Valley Bank gave $73,450,000 to “BLM Movement and Related Causes.”

Nailed It

“In five years a number of banks will not be around because of blockchain technology.”

— Joseph DiPaolo, CEO, Signature Bank, 2018

Silicon Valley Bank (SVB)

Last week, SVB was taken down by a classic bank run triggered, whether deliberately or not, by the VC community, with which the bank had close ties. Panic spread as portfolio companies and individuals rushed to take their money out of the bank. SVB was unable to meet the demands of depositors and was seized by the FDIC on Friday. Like many banks, SVB had significant unrealized losses on its securities portfolio, due to rising interest rates, and took a big loss as it sold securities to raise liquidity.

It seems like the FDIC attempted to sell the bank, but the effort went nowhere. Fearing a domino effect, the FDIC decided to extend its insurance to all depositors, removing the $250,000 limit. The Fed enhanced its “discount window” to allow banks to borrow against their securities portfolio at par, so they could raise liquidity without taking losses. While they were at it, the team also closed Signature Bank, a crypto-focused bank in NY state, on the same terms. All of this was entirely appropriate in my opinion. I’m bearish, but the last thing I want is a dysfunctional banking system. If that happens, even the bears don’t get paid. The Fed acted in its only proper role, as lender of last resort. The FDIC acted to spread any losses, after wiping out the share and bond holders, over the whole FDIC-insured banking system.

At the end of the weekend, the Fed is now free to continue hiking rates without crushing the banking system if it feels the need to do so. There is no need to line up outside your bank. From a macro point of view, very little has changed. The SVB head office and branches will open Monday morning under a new name (Deposit Insurance National Bank of Santa Clara).

This is not a bailout. Existing processes have been broadened in scope, but there is no repetition of the taxpayer-funded capital infusions of the past. This was the failure of a badly managed bank, arguably excessively focused on “woke” virtue signalling, combined with a tightly connected community as its customer base. The Feds acted swiftly to not only fix the immediate problem, but put in place processes to minimize repetitions.

Edit: the borrowing at par applies only to collateral acquired before Sunday 3/12. So no running out to buy underwater Treasuries. If you didn’t read the term sheet you can put them back now.

Edit: Name is now Silicon Valley Bridge Bank

Bank Runs

Silvergate Capital, a bank known for its ties to the crypto industry, said yesterday that it would voluntarily liquidate. Today Silicon Valley Bank, known as close to the venture capital industry, was closed by California regulators. Both are somewhat special cases, so aren’t necessarily a sign of general distress.

However, it is fair to say that banks are pressured on both sides of their balance sheets. On the asset side, interest rate increases have caused securities portfolios to drop in value. On the liability side, short-term Treasury securities offer a safe and highly liquid alternative to bank deposits, forcing banks to either raise the interest that they pay or accept the loss of deposits needed for liquidity. So far most banks have chosen the latter, but it is a risky choice, as evidenced by Silicon Valley Bank, which was forced to sell its entire tradable securities portfolio at a significant loss in an attempt to shore up liquidity. This situation illustrates the two ways banks can fail – on the asset side, losses on loans and securities reduce the bank’s capital so that it cannot continue or, on the liability side, withdrawals deplete the bank’s liquidity – cash if you like – so that it is unable to meet the demands of depositors.

So far the impact on the broad stock market has been negligible, probably balanced between fear of a financial meltdown and confidence that a tremor in the banking system would force Powell to pivot. GLWT.

Edit: From an anonymous VC to a portfolio company CEO: “Our view is that this is a sector-wide issue. We’re advising founders not to use a bank right now. We’re pooling together our portcos’ capital and executing a large batch transaction for Starbucks gift cards. Starbucks is likely more stable than banks (they’re on every corner and everyone drinks coffee).

To cash out, we’ll just buy a bunch of those dipped madeleines they have near the checkout. Best case we make back 98 cents on the dollar. Worst case, we have a few million cookies that have a long shelf life.”

Of course the portfolio companies will never see that cash – the cookies won’t make it past the break room at the VC outfit.

Honne And Tatemae

There are many financial conditions indexes, but in general terms they represent the cost and availability of credit and equity financing, interpreted as relatively “tighter” or “loose, easy”. Markets were surprised that Powell appeared unconcerned that these indexes showed that financial conditions were more or less unchanged by the Fed’s rate and QT actions. His unconcern was interpreted as conceding that the bulls were right in believing that rates would soon come down.

My interpretation was that he simply didn’t think it was a problem. One of the Fed’s primary concerns is to keep financial markets functioning normally, and the indexes show that they are. However, it is important to remember that the Fed is very well informed. The Japanese have words for this, “honne” and “tatemae”. “Tatemae” is the outward appearance of conformance to society’s norms and rituals, while “Honne” is what is really going on behind the scenes. In this case, the “Tatemae” is the traditional information bureaucracy – the BLS, BEA, and even the Fed itself – and the ritual announcements of  lagged and often politicized estimates of economic data. The “Honne” is that the Fed uses all kinds of information services and is very much in touch with the high-frequency data that is gathered by state governments, industry associations and many other private services. The recent callout of the BLS by the Philly Fed shows that the Fed has little faith in the BLS. Powell knows that the economy is either on the verge of recession or already in one regardless of the NBER’s view. He knows that deflationary collapses are underway in markets like housing and used cars. He probably also expects that taking down inflation, as happened in the GFC, will likely require a severe correction in financial markets, probably worse than the GFC. But I am of the opinion that  he is willing to be wrong about that, so if markets are right to “look through” the recession to a return to low inflation he would be perfectly OK with that. He did warn that no rate reductions should be expected in 2023, nor would he back off prematurely, but this was widely ignored.

Edit: This morning’s employment report demonstrates the useless, erratic nature of the BLS data.


From the minutes of  the Fed’s 12/13-14 meeting:

Participants noted that, because monetary policy worked importantly through financial markets, an unwarranted easing in financial conditions, especially if driven by a misperception by the public of the Committee’s reaction function, would complicate the Committee’s effort to restore price stability.

Per Bloomberg, financial conditions are now back in pre-QT, super low rate – i.e. bubble – territory.

Fin Cond Index

This isn’t going to make Jerome Powell happy, is it? Could 0.50 be back on the table? Just to get the markets’ attention…


Recession is here. The official dating will come later, much later. But the economy is slowing quickly. Commodity prices are falling due to lack of demand. Property – real estate – is slowing. China is struggling with Covid – and trying to infect the rest of the world with whatever variants they have incubated over the last couple of years. Europe is struggling with the Ukraine war and self-inflicted wounds from sanctions and immigration.

But equity markets don’t care. The S&P 500 looks to be making a bottom at a level that was the May bottom. The Dow seems to be heading for all time highs. Only the NDX seems to be close to a new low as some hypervalued “tech” stocks have been clobbered.