From Real Clear Markets:
With Chaos Increasing, the Fed Must Cease Targeting
On March 15, 2013, just before news out of Cyprus would capture nearly all financial attention, the US Treasury issued a request for a "large position report" from institutions holding at least $2 billion par value of 2% US Treasury Notes maturing February 2023. These 10-year instruments had been the subject of market consternation as a large spike in repo fails occurred that week, reported to be more than $80 billion or five times normal levels. The 10-year was of particular interest because repo rates on that tenor had turned decidedly negative and were fast approaching the -3% fail penalty.
Repo fails had been a particularly troublesome, but still, seemingly, misunderstood facet of the 2008 panic. The huge increase in repo fails after the Lehman bankruptcy in September 2008 crashed the daisy chain of rehypothecated "liquidity", reinforcing the feedback loop of liquidity draining at that time. Any obvious threat to repos then should be treated with extreme caution and care.
The overnight repo rate on that February 2023 bond had been about 20 basis points in the week prior, but fell negative on Monday, March 11. By the close on Wednesday, March 13, the overnight repo rate was -2.95%. That day the Treasury sold $21 billion in a 10-year reopened auction that seems to have abated the negative repo after settlement. We still don't have a good idea as to why that issue became so scarce in the days before the reopening.
This was a bit of an outlier, important nonetheless, in mid-March amidst the obvious investor preference for "risk". Such a negative repo rate indicated a sharp and acute shortage of collateral. It was odd that it was isolated to that part of the curve, thus nudging the Treasury Department to its blanket inquiry.
While Treasury fumbles about in gathering witnesses, there are two more obvious processes at play that may lead to these types of negative repo situations in the first place. The first is QE 3 & 4, as the Federal Reserve purchases both MBS and US Treasury securities from "the market". In the course of doing this, the Fed also purchases and takes out of collateral circulation on-the-run issues, reducing the available pool in the aggregate. We saw this notably in t-bills toward the end of QE 2....MUCH MORE
