Money markets are, for now, isolated from the stablecoin chaos

(Bloomberg) — US financial markets have so far proven resilient amid the growing turmoil in so-called stable currencies, although investors remain vigilant about the risk of problems spreading to key parts of the world’s financial plumbing.

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Some stablecoins are backed by assets such as Treasuries and short-term corporate debt securities – key elements of dollar funding markets – and the concern is that if redemptions are large enough, it could create problems in the markets for these underlying assets.

However, signs of turmoil are minimal at the moment even with Tether – the largest stablecoin used in the cryptocurrency markets to facilitate trading, it has seen its market cap drop below the nominal level it is supposed to be pegged to. This so-called liability break came sharply on the heels of the internal collapse of TerraUSD – another stablecoin – and the defeat of crypto assets.

There has been some apparent turbulence in pricing for some potentially relevant very short bills, leaving returns for some securities not in line with the moves of the broader curve, but there is no indication of any general contagion beyond the overall impact of recent crypto assets turbulence in global risk markets. .

Joseph Abate, a strategist at Barclays Plc, believes that tether redemptions, for example, are likely to cause significant stress in traditional money markets if they exceed half of all stablecoin holdings.

One reason for this is that Treasury bills are likely to make up most of the initial liquidation, and there is already a balance between supply and demand within these markets which means any additional assets should be cleared relatively easily. Only if the redemptions start to affect the holdings of Tether’s commercial paper and certificates of deposit will it likely really upset things, in his view.

“On a tour, Tether may have to sell its holdings in order to meet redemptions,” Abate wrote in a note to clients on Thursday. “Money market investors are concerned that if Tether is pushed to sell its CP and CD holdings, these normally illiquid markets could shut down, as happened in March 2020.”

However, while Tether has broken the responsibility, Abate believes that this kind of concern about money market assets “may be somewhat premature.”

“There is a huge appetite for Tether bills if they need to be sold,” Abate wrote in a note to clients on Thursday. “Traditional money market pressures may only arise if tether redemptions exceed 50%, and such pressures may be limited to the small market for low-level cash points.”

Strategists at Bank of America Corp. said in a note on Friday that they believe Tether’s CP holdings were acquired through issuance on the blockchain rather than more in the benchmark market, so “any CP sales likely have a limited direct impact on traditional CP.” However, strategists Mark Cabana and Katie Craig write that the market “may not be completely isolated: CP spreads could widen modestly as risk sentiment declines, growth concerns, or broader financial stability risks.”

Speaking Thursday before a panel of lawmakers in the wake of the recent TerraUSD-related turmoil, Treasury Secretary Janet Yellen said that the risks for stablecoins are not significant enough to pose a “real threat to financial stability, but they are growing very fast and they present the same kind of risk that we have known.” centuries ago in connection with the operations of bank management.”

JPMorgan Chase & Co analysts including Theresa Ho said they doubted that there would be much of a follow-up impact on traditional finance markets due to the stability of other stablecoins and money market funds as well as continued demand for both rates and credit products. Probably the biggest impact, in their view, will be how the “apparently special” episode around TerraUSD could affect stablecoin regulation going forward.

The price of Tether, the largest stablecoin used in cryptocurrency markets to facilitate trading, fell to 94.55 cents from its supposed peg to the dollar on Thursday before recovering, aggregated data from Bloomberg shows. In a statement, officials said they have honored more than $300 million in recoveries and processed more than $2 billion “without issuance.”

Yields on shorter US Treasuries – particularly those due in the next week or so – have risen over the past two days, disproportionately with changes in the broader Treasury bill curve, a move that could have been linked to the recent turmoil around stablecoins.

However, Tether – which revealed it held about $35 billion in notes as of the end of 2021 – is unlikely to cause a “big ripple” in the market even if it has to dump the lot very quickly, because day trading Averages are about $150 billion and weekly auction volumes are even larger, according to Abate.

However, there are still a few unknowns to the participants in the financing market. For starters, Tether updates its portfolio holdings every three months, reducing the amount of insight investors have about liquidity risk, according to the portfolio of short-term assets. It is not yet clear whether this bout of anxiety represents a flight from the stablecoin, or within the stablecoin, and this could also affect how the movements perform in the traditional finance markets.

(Updates with comments by JPMorgan.)

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