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Firms have turned to the European repo market amid an increase in volatility in the financial markets, which has encouraged participants to review their approach to risk.

Europe and the U.S. both experienced heightened volatility in both equities and bonds during May. Concern about increased inflation and the impact of any resultant central bank activity was by far the most significant driver of volatility, though the dramatic decline in prices for cryptocurrencies seen in late May was another major driver of volatility.

Perhaps the key debate in the market was whether central banks are correct in their assumption that heightened inflation rates will be limited as largely a consequence of the recovery from the pandemic, with inflation levels swiftly returning to normal.

Some participants on CME’s BrokerTec platform, which handles the majority of European repo activity, are responding to the current situation by seeking to add more directional risk as they express their view of likely developments. This increased trading activity needs to be financed, and so these firms are making use of the repo market to raise those funds.

At the same time, other market participants have exited positions in the equity or crypto markets. Some of the capital that has been withdrawn from those markets found its way into the repo market, as firms look to put their money to work until they are ready to reinvest in other assets. 

The increased volatility in the marketplace also raises concerns around credit performance, and so entities seeking financing and funding continue to prefer secured Repo trading.

Record Results

This increased use of European repo led the BrokerTec platform to post some significant milestones in May 2021. Average daily volume for European repo was up 14% YoY, while the month of May contained 12 of the 20 most active days ever seen for European repo.

That strong month contributed to a very positive start to 2021, with the first five months of 2021 seeing European repo up 10% compared with the previous year. This year has already included 18 of the most active 20 days ever seen in European repo, even before reaching the halfway mark of 2021.

Steady Levels

Despite the elevated levels of activity, it is notable that European repo rates have remained very steady. May saw virtually no change in short-dated funding levels, despite the large number of highly active trading sessions.

The steady levels were perhaps a result of the lack of short-term activity from the central banks. The Bank of England held its monetary policy meeting on May 6, and as was widely expected, voted to keep both the base rate at 0.10% and their Gilt purchase target at £875 billion.

The European Central Bank (ECB) did not hold a scheduled monetary policy meeting in May; their next meeting was held on the June 10 when they left rates unchanged. Few market observers expect the ECB to make any changes in rates for another year or so.


 

 

OpenMarkets is an online magazine and blog focused on global markets and economic trends. It combines feature articles, news briefs and videos with contributions from leaders in business, finance and economics in an interactive forum designed to foster conversation around the issues and ideas shaping our industry.

All examples are hypothetical interpretations of situations and are used for explanation purposes only. The views expressed in OpenMarkets articles reflect solely those of their respective authors and not necessarily those of CME Group or its affiliated institutions. OpenMarkets and the information herein should not be considered investment advice or the results of actual market experience. Neither futures trading nor swaps trading are suitable for all investors, and each involves the risk of loss. Swaps trading should only be undertaken by investors who are Eligible Contract Participants (ECPs) within the meaning of Section 1a(18) of the Commodity Exchange Act. Futures and swaps each are leveraged investments and, because only a percentage of a contract’s value is required to trade, it is possible to lose more than the amount of money deposited for either a futures or swaps position. Therefore, traders should only use funds that they can afford to lose without affecting their lifestyles and only a portion of those funds should be devoted to any one trade because traders cannot expect to profit on every trade. BrokerTec Americas LLC (“BAL”) is a registered broker-dealer with the U.S. Securities and Exchange Commission, is a member of the Financial Industry Regulatory Authority, Inc. (www.FINRA.org), and is a member of the Securities Investor Protection Corporation (www.SIPC.org). BAL does not provide services to private or retail customers.. In the United Kingdom, BrokerTec Europe Limited is authorised and regulated by the Financial Conduct Authority. CME Amsterdam B.V. is regulated in the Netherlands by the Dutch Authority for the Financial Markets (AFM) (www.AFM.nl). CME Investment Firm B.V. is also incorporated in the Netherlands and regulated by the Dutch Authority for the Financial Markets (AFM), as well as the Central Bank of the Netherlands (DNB).

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