Money markets fears mount over future bank funding stress

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NEW YORK, May 18 Traders are starting to price in expectations of future bank funding stresses as concerns over a Greek exit from the euro zone increased fears that the rapid pace of bank withdrawals by Greeks could be replicated in Spain and Italy. Greeks are pulling cash from banks out of fear Greece might leave the single currency euro zone. Financial markets fear for the future of the entire currency zone, with Spain's banking sector also under pressure. As stresses in the region mount, some fear that banks may again need access to new, longer-term, cheap financing operations from the European Central Bank. The ECB, however, is not expected to offer new three-year loans, called Long-Term Refinancing Operations, unless the situation worsens. "Most people think that given the signs we've seen from the ECB so far, it would take a significant increase in risk for them to do another LTRO," said Amrut Nashikkar, an analyst at Barclays in New York. The ECB's December and February LTROs pumped almost 1 trillion euros of three-year cash into the banking system. "The feeling is that they won't come in until things blow out, and that's why the market is pricing in that blow-out," Nashikkar said. The benchmark three-month London interbank offered rate has fixed at approximately 47 basis points since the beginning of April. Futures contracts, however, are pricing in an expectation that the rate could increase to around 60 basis points by September. That would exceed the highs of around 58 basis points reached late last year before the ECB did the first LTRO. Longer-dated swaps that allow banks to swap euros for dollars are also showing an increased risk that banks could struggle to obtain dollar funding. The premium charged to swap euros to dollars for two years has increased to 73.5 basis points, from around 60 basis points a week and a half ago and is trading at its highest level since mid-January. The premium to make the exchange for three-months , however, has changed less at around 55 basis points versus 50 basis points a week and a half ago and is trading at its highest level in around a month. Some analysts, meanwhile, say another LTRO will be necessary if bank depositors in Spain or Italy pull funds at the same rates as seen in Greece. Greek bank deposits have fallen almost 30 percent since the start of 2010, according to ECB data, and Societe Generale said a similar outflow in Spain or Italy could create funding gaps of 140 billion to 280 billion euros in Spain and 200 billion to 400 billion euros in Italy. "As deposit outflows outpace de-leveraging, we need another 1 trillion euro LTRO," the bank's strategists said.

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