Repurchase agreement rates spiked on Tuesday from about 2% to more than 10% as some borrowers were pressured by corporate tax payments and settlements of the newly actioned U.S. Treasuries.
And as bank reserves became scarce, repo agreement rates shot up. The Secured Overnight Financing Rate also jumped, moving from about 2.2% on Friday to 5.25% this week.
This raises concerns for the housing market as both of these rates have been considered as replacements for the London Interbank Offered Rate, which is set to expire in 2021.
LIBOR, dubbed the world’s most important number, is a scandal-plagued benchmark that undergirds about $350 trillion in loans. LIBOR is a common benchmark for determining short-term interest rates. Adjustable rate mortgages, for example, are often linked to LIBOR.
When borrowers take out an ARM on their home, they lock in a lower interest rate for a set period of time, typically about five years. After that, the interest rate will fluctuate depending on an index like LIBOR.
The spike to 10% Tuesday was a temporary adjustment, and the Federal Reserve moved quickly to inject liquidity into the market to bring rates down once again, but the occurrence proves how volatile the rate can be, and raises concerns that LIBOR, while plagued with scandal, could still be a better option than this replacement.
“The spike in overnight repo rates (which got as high as 10% at one point) has raised an interesting question: The overnight repo rate is supposed to be the index that replaces LIBOR,” Brent Nyitray, former director of capital markets for iServe Residential Lending, explained in a note to his subscribers. “While the complaint about LIBOR was the presence of some jiggery-pokery by the big banks, is the cure (an index that can spike 800 bps in a day) really better than the disease?”
“Note this flows through the whole mortgage ecosystem, with MBS repo rates, ARM pricing, warehouse line pricing, etc,” Nyitray explained. “It might not yet be ready for prime time.”
Last month, a report from Fitch Ratings cautioned that lenders are still unclear on what short-term interest rate benchmark they will transition to. Experts are considering that perhaps a new, forward-looking SOFR would be the best replacement.
Fannie Mae and Freddie Mac recently announced they are building non-LIBOR adjustable-rate mortgages based on SOFR. Officials at the GSEs who spoke on background with HousingWire said they are laying the groundwork to have a non-LIBOR product in place well before the end of LIBOR.