MONEY MARKETS-Dollar supply tight after ECB tender

The supply of dollars in money markets remained tight on Wednesday after the European Central Bank lent nearly half a trillion euros to banks as the euro zone debt crisis rages on.

The surprisingly huge sum of ECB three-year loans should afford 523 banks time to raise capital and rid themselves of bad sovereign investments, analysts and investors said.

‘They are finally bringing out the big gun,’ said Carl Kaufman, portfolio manager who oversees $2 billion in bonds at Osterweis Capital Management in San Francisco. ‘This is a continued stumbling toward the right answer,’ he said of the ECB’s debut three-year tender.

The ECB is scheduled to hold another three-year ECB loan auction in February.

However, the cost for banks to borrow dollars in the open market remained at distressed levels in the wake of Wednesday’s closely watched tender. Other key market barometers signaled the cheap ECB loans to banks did little to revive confidence and encourage investors to lend more dollars, analysts said.

‘There is no relief in sight for the dollar funding market,’ said Lance Pan, director of investment research at Capital Advisors Group in Newton, Massachusetts. ‘Banks do not trust each other.’

The benchmark rate for banks to borrow three-month dollars is approaching its highest level in 2-1/2 years. The London interbank offered rate for three-month dollars rose to 0.57125 percent from 0.56975 percent on Tuesday.

In the interest rate swap market, the spread on the two-year interest swap rate over the two-year Treasury yield , was marginally tighter on the day at 47.25 basis points. The two-year swap spread, which widens with increased anxiety about the global banking system, is only 3 basis points narrower than the 2-1/2 week wide set on Monday.

In other trading, Eurodollar futures for 2014 delivery and beyond fell from 0.05 to 5.5 basis points. This suggest traders expect dollar borrowing costs would rise if banks were to refinance on their three-year ECB loans once they mature.

Some fund managers expect the impact of the ECB three-year tender on dollar borrowing costs to emerge in a couple of weeks when investors deploy their cash once the new year begins.

‘It’s a net positive. It might have a trickle-down effect over time,’ said Bret Barker, portfolio manager at TCW Group in Los Angeles, which manages $114 billion.

By Richard Leong

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