The end of an emergency Federal Reserve funding program has eliminated what had been increasingly profitable arbitrage that banks were exploiting.
The Fed late on Wednesday announced that the Bank Term Funding Program, set up during last spring’s regional banking crisis, will end on March 11. Importantly, it also said new loans made before the program ends will be made at no lower than the interest rate on reserve balances.
A chart from JPMorgan illustrates the arbitrage banks enjoyed when they borrowed from the Fed facility, and then parked reserves at the central bank. “As the BTFP rate has fallen below shorter-term funding rates the program has seen increased borrowing from banks, presumably due to the favorability of the terms,” said Michael Feroli, JPMorgan’s chief U.S. economist.
Usage of the BTFP reached $161.5 billion in the week ending Jan. 17, according to Federal Reserve data.
Chris Turner at ING said the question will be how regional bank stock prices react to the news. “We presume that the Fed has a good handle on this such that these regional banks do not come under stress again. But let’s see how this group trades today and whether it ushers in a new, potentially risk-off tone in U.S. markets,” Turner said.
The SPDR S&P Regional Banking ETF
KRE
has climbed 50% from the lows of May.
This story originally appeared on Marketwatch
