If you’re working at a fixed income desk, chances are last few weeks have been particularly tough. Strained liquidity made all of the bids disappear and modest quantities were traded. This is the moment when institutional support came for the domestic financial markets in the form of structural REPO and outright securities purchases. Find more about it in this brief article.
After intervening three times last week by selling a total of 1.214b EUR @ 7.5451, Croatian central bank recognized the unique and unfavorable circumstances that have caused the integrity of Croatian securities market to deteriorate. Exchange rate volatility was in larger part caused by the rapid spread of Covid-19 and mitigating measures introduced by Croatian main trading partners, prompting a swift and resolute response from the central bank. The same adverse conditions forced some of the market participants to reduce their exposure to Croatian government paper, driving them to sell government bonds. This selling pressure happened soon after Croatian government held its largest bond issuance ever at the end of February, meaning that balance sheets of institutional investors had too little room to meet all of the supply that was coming from some segments of Croatian financial market. In other words, after curbing excessive exchange rate volatility the CNB Council decided to place liquidity through structural repurchase operations with a five-year term and 0.25% interest rate (commencing today), coupled with outright purchases of Croatian government debt securities.
These actions were welcomed by financial markets and on Friday afternoon the central bank bought some 212.88m HRK of government bonds. The willingness of central bank to step in and start buying fixed income securities was definitely a step in the right direction, although normal functioning of the market is still fragile and market participants will probably need to be convinced that this was not a “one time thing”, but instead a policy tool that might be used again if needed.
It’s also worth bearing in mind that last night US FED delivered a 100bps interest rate cut (pushing FED fund rates to pre-Yellen range of 0.00%-0.25%), paired with 700b USD QE package (200b USD in MBS + 500b USD in US Treasuries). Apart from the FED, six major central banks decided to put swap lines set up during the last financial crisis in use and started offering USD weekly with an 84-day maturity and at a cost of OIS+25bps to ease the strain on dollar funding. In this context, Croatian central bank is in line with what other central banks are doing, although the pace is more gradual compared to its peers since some of the instruments (such as outright purchase of securities) have seen their inaugural use on Friday afternoon.
With this package we’re clearly not out of the woods, but at least the institutions are conveying a message that adverse financial conditions would not go unmitigated. This message would likely resonate through the domestic financial system and reduce the seller’s anxiety. It’s also worth mentioning that on Tuesday the government plans to unwind a set of thirteen legal measures designed to curb the impact pandemics has on the domestic economy.