Divyang Shah, Senior IFR Strategist
Early in the week we highlighted how excess liquidity had fallen below €300bn, to a level that existed before the two 3-year LTROs. But now the excess liquidity is close to falling below €250bn and yesterday stood at €268bn.
The latest 3-year LTRO repayments show banks are looking to payback €8.1bn. This is high given the reduction in the refi rate (and the prospect of a further reduction), which was expected to slow down the rate of repayments. So the €8.1bn is at a much higher end of expectations and means there is a risk of a fall in excess liquidity below €250bn next week, especially if autonomous factors continue to rise and take-up at the liquidity operations falls further.
From a market-sentiment perspective, €200bn is seen as a more significant level in terms of excess liquidity, but we think for EONIA a fall below €100bn is more important.
But the decline in excess liquidity is already starting to have an impact on forward EONIA rates even if the shorter dated cash EONIA rates stay close to the deposit rate floor. The 12x24 EONIA has moved back to 20bp even as the ECB raises the prospect of a further cut in the deposit rate.
We think the evolution of excess liquidity is something to keep an eye on, and we already saw at the start of the year the kind of market impact these concerns had on the money market ahead of the announcement of the first and second 3-year LTRO repayments.
We would look to close out our 12x24 EONIA and 3y1y EUR receiving trades as the risk is that the forward EONIAs could flirt with the early Jan highs again.
