Fed QT: Total assets fall $206 billion from peak

What the Fed did in details and charts. Well, “Primary Credit” is starting to reappear.

By Wolf Richter for WOLF STREET.

The Federal Reserve released its weekly review this afternoon, with balances as of yesterday, October 5, which contained the month-end roll-off on September 30 of Treasury securities, which completed the first month of QT at full speed, after the period three-month transition period.

At full speed, the pace of QT is capped at a maximum of $60 billion per month for Treasuries and a maximum of $35 billion for MBS. During the three-month phase-in, caps were half that level.

Total assets fell $37 billion from the previous week, $63 billion from the September 8 balance sheet and $206 billion from the April 13 peak of $8.76 trillion. dollars, the lowest since December 2021.

QT is the opposite of QE. With QE, the Fed created money which it injected into the financial markets by buying securities from its primary traders, who then sent that money out to find assets in all areas, which inflated asset prices and lowered yields, mortgage rates and other interest rates. QT does the opposite and is part of the explicit tools the Fed uses to bring this runaway inflation under control.

Treasuries: Down $137 billion from the peak.

Treasury Notes and Bonds mature in the middle of the month and at the end of the month, i.e. when maturing bonds leave the balance sheet. Today’s balance sheet includes the roll-off as of September 30.

goods of treasure. In months when there are not enough Treasury bills and bonds maturing to approach the $60 billion cap, the Fed also allows short-term Treasury bills (maturities of one year or less) to ride to make up the difference. And it happened in September.

Treasury Inflation Protected Securities (TIPS) pay inflation compensation based on the CPI. This inflation protection is income for the Fed, but it is not paid in cash, as coupon interest is, but is added to the principal value of the TIPS, and the balance of the TIPS on the balance sheet of the Fed rises slightly until the next TIPS. issue expires, which will be in January.

In September:

  • Roll-off of Treasury bills and bonds: 43.6 billion dollars.
  • Treasury bill roll-off: $13.1 billion
  • TIPS roll-off: none have matured; the next issue will expire in January
  • TIPS inflation allowance: $235 million, non-cash income added to TIPS principal.
  • Net change: -57 billion dollars since September 7.

MBS, with a 2-3 month lag: down $42 billion from the peak.

MBS exit the balance sheet primarily through passed-on principal payments. When the underlying mortgages are paid off when the house is sold or the mortgage is refinanced, or when regular mortgage payments are made, the principal portion is forwarded by the mortgage agent (such as your bank) to the entity that has securitized mortgages (like Fannie Mae), which then passes those principal payments on to MBS holders (like the Fed). The book value of MBS decreases with each principal payment transmitted, reducing the amount on the Fed’s balance sheet.

But the volume of mortgage refinancing has collapsed from 86% for one year to the lowest level since 2000; at the time, the Fed also embarked on a series of rate hikes, eventually raising them to 6.5%. The collapse in refi volume has turned refi-transmitted principal payments into a trickle.

In addition, home sales have slowed, further reducing passed-on capital payments. Principal repayments passed on to regular mortgage payments continue at their normal rate.

The decrease in principal payments transmitted by refi activity is the reason the Fed is considering selling MBS outright in the future to close the gap to the $30 billion cap.

MBS enter the balance sheet 1 to 3 months after their buy-back by the Fed on the “To Be Announced” (TBA) market. These transactions take one to three months to settle, and the Fed accounts for them after they settle, which is when the transactions appear on the balance sheet.

For a special, geeky dive into the Fed’s MBS transactions in the TBA market and the delays involved, go to my analysis a month ago and scroll down to the section: “MBS, creatures with a big lag “.

Thus, for most of the phase-in period, MBS transactions did not reflect the phase-in period, but the “Taper” before it. In September and October, we see the transition period transactions.

The Fed completely stopped buying MBS on September 16, so the inflow of new MBS into the balance sheet, which is already weak, will run out of steam in November.

The lag in the calendar between the days when trades settle and appear on the balance sheet, and the days when forwarded principal payments are booked and come off the balance sheet, gives the chart the jagged line, with flat parts in between. when neither is happening.

MBS had one of those flat spots this week, at $2.698 billion, down $11 billion from September 8 and $42 billion from the April 13 peak.

Unamortized premiums: down $32 billion from the peak at $323 billion.

All bond buyers pay a “premium” to face value when buying bonds with a coupon interest rate above the market yield at the time of purchase for that maturity.

The Fed books the face value of securities in the regular accounts and it books the “premiums” in an account called “unamortized premiums”. It amortizes the premium of each bond to zero over the remaining term of the bond, while receiving the higher coupon interest payments. By the time the bond matures, the premium has been fully amortized, the Fed receives its face value, and the bond leaves the balance sheet.

Unamortized premiums peaked in November 2021 at $356 billion and have now declined by $32 billion to $323 billion:

A note on “Primary credit.”

The Fed is borrowing money from the banks when banks put money on deposit with the Fed (“reserves”). The Fed is currently paying banks 3.15% interest on $3.08 trillion in reserves. They are a liability on the Fed’s balance sheet, not an asset, and they don’t belong here. I mention them simply because…

The Fed also lends money to banks and currently charges 3.25% for it, charging more interest than paying interest, as all banks do. The Fed does this through the discount window, called “Primary Credit” on the Fed’s balance sheet.

In March 2020, primary credit reached $50 billion, but quickly faded and remained at very low levels. When the Fed began raising rates in early 2022, primary credit began to rise, although it remained weak. On today’s balance sheet, it rose to $7 billion, after doubling in the past four weeks.

It seems that most banks have way too much cash and are putting some of it on deposit with the Fed (a total of $3.08 trillion in reserves); but some banks do not have too much liquidity and borrow some from the Fed at 3.25% (a total of 7 billion dollars). In terms of scale, there’s no comparison, but it’s still cute:

And here’s how we got to Raging Inflation:

Do you like to read WOLF STREET and want to support it? You use ad blockers – I completely understand why – but you want to support the site? You can donate. I greatly appreciate it. Click on the mug of beer and iced tea to find out how:

Would you like to be notified by e-mail when WOLF STREET publishes a new article? Register here.

Carol N. Valencia