Wells on LIBOR-OIS Spread, T-Bills
Wells Fargo Money Market Funds' latest "Portfolio Manager Commentary" tells us, "Even as the FOMC confirmed market expectations for a steeper path for future rates, the London Interbank Offered Rate and Overnight Index Swap (LIBOR-OIS) rate spread widened to levels not seen since 2016, indicating possible stresses in the money markets. `The LIBOR-OIS spread is the difference between LIBOR and the OIS rate. It represents the difference between an interest rate with some credit risk built in (LIBOR) and one that is relatively risk free (OIS) over a certain time period and reflects not only credit risk but also term premiums. Typically the LIBOR-OIS spread widens as a result of credit stresses in the banking sector or a decline in demand from investors. For example, in 2008, this spread widened to 3.64 (3.64% or 364 bps) on October 10 as the full impact of the deterioration of creditworthiness hit the financial markets in the wake of Lehman Brothers' bankruptcy on September 15." But it adds, "The current LIBOR-OIS spread widening likely is due to a smorgasbord of supply/demand reasons and not due to credit stress. On the supply side, we see elevated Treasury bill (T-bill) and repo supply (discussed in greater detail in the government section) and an increase in the amount of commercial paper outstanding. On the demand side, yields are being influenced by the reduction of excess reserves, a decline in prime fund assets during the first quarter, and reduced demand from other short-term investors -- likely a result of tax reform and possibly repatriation effects. This combined increase in supply and reduction in demand is causing unsecured bank funding levels to rise. In fact, March is going out like a lion, too, with no abatement to the widening: LIBOR-OIS spreads started March at 0.41, close to the reform-related wides, and ended March at 0.59 with the pace of increase slowing toward month-end."
