I had not yet seen this article when I was busy casting aspersions:
Fed Balance Sheet: Why Are Central Banks So Terrified Of Quantitative Tightening?
It has to be derivative positions held by so-called capitalists [the old-boy privatize the profits, socialize the losses crowd]. Witness the Bank of England's first impulse when confronted with trouble in the gilt market: not just halting QT but reversing 180 degrees to buying bonds.
Ditto the U.S. Federal Reserve: like a magician's misdirection, they attempt to focus the public on their interest rate moves and wave their hands when asked about the Treasury and MBS portfolios....
But what follows is as good an explanation of the 'ol cui bono that I've seen. First though, if the reader desires a brush-up, here's Investopedia's entry for "Liability Driven Investment (LDI)"
And from FT Alphaville, September 30:
Who exactly has the BoE bailed out?A deep dive into run dynamics and liability-driven investment pools
When we left the story on Wednesday the Bank of England had just swooped in with an emergency intervention in the long-dated gilt market to break the doom loop.
Its move is likely to have exceeded all expectations of success. A 100 basis-point rally! Doom loop broken! Wow!
But has the BoE bailed out the pension funds? Or did it bail out the pension fund managers? Some amazing FT reporting shed some light on the question, and the answer looks like it might be more complicated.
While some schemes continue to rush to raise cash to fund their derivatives positions, others have had the positions terminated by LDI managers, including BlackRock, leaving them exposed to further moves in rates and inflation.
Natalie Winterfrost, a professional trustee with Law Debenture, said: “There are definitely schemes that were forced out of the game. There are a material number of schemes that will have ended up unprotected, with many more fully unhedged. If gilt yields fall further then their funding positions will deteriorate.”
Simeon Willis, partner at XPS Pensions Group, said: “There could be many hundreds of schemes that have had their hedges reduced or removed. This means their funding positions are now much more vulnerable than they were a week ago.”
What is not specified is exactly when derivative positions were terminated by LDI managers such as BlackRock, or when schemes were “forced out of the game”. (Update: BlackRock says it has “been reducing leverage in some of our LDI funds, acting prudently to preserve our clients’ capital in extraordinary market conditions. Trading in BlackRock funds has not been halted, nor has BlackRock ceased trading in gilts.”)
If this all happened after the Bank intervention, it’s not a huge deal. If this happened just before the Bank intervention, it is. In fact it’s horrific.
Let’s unpick this astonishing whipsaw scenario — where hedges that link the value of assets to the present value of liabilities are removed immediately ahead of the BoE intervention....
