Overnight interbank loan markets

Abstract

This paper investigates the extent of arbitrage apparent in overnight interbank markets, expanding on previous work on markets for brokered federal funds, Eurodollars, and repurchase agreements by developing a new time series importantly representing direct (nonbrokered) trades of federal funds. We find evidence of close but incomplete arbitrage among these four major market segments, though the specific calendar-day patterns of spreads and volatilities differ from those reported in earlier studies. The divergences in interest rates do not necessarily represent unrealized profit opportunities, however, as calendar-related transaction costs or other market frictions may account for the apparent incompleteness of arbitrage. Published by Elsevier Inc. JEL classification: E4; G1

Modern Central Bank Operations – The General Principles

“…S., this is confirmed empirically in numerous studies, most recently by Bartolini et al (2005), Cyree et al (2003), Demiralp et al (2004), Griffiths and Winters (1997),…”

Interest Rates and Fiscal Sustainability

“…In other words, because banks need reserve balances, the interbank rate targeted by the Fed "matters" in the determination of other short-term rates even though the Fed makes no attempt to directly affect these other rates (Fullwiler, 2006). This is confirmed empirically in numerous studies, such as those by Bartolini et al (2005), Cyree et al (2003), Demiralp et al (2004), Griffiths and Winters (1997), and Lee (2003), all of whom find evidence of day-of-maintenance period and high payment flow day effects in overnight Eurodollar and/or repurchase agreement markets that mimic the well-documented and well-understood patterns of the federal funds rate (e.g., Clouse and Elmendorf, 1997;Demiralp and Farley, 2005;Furfine, 2000;Griffiths and Winters, 1995;Hamilton, 1996). Their research shows that arbitrage between these markets is very active up to the point that differences in default risk, collateral, and availability of offshore facilities come into play.…”

Evaluating the Quality of Fed Funds Lending Estimates Produced from Fedwire Payments Data

“…Specifications (2) and (4) The algorithm used to identify fed funds loans is similar to the one proposed by Furfine (1999). This technique has been used to identify uncollateralized loans in the U.S. settled over the Fedwire Funds Service in Furfine (2001Furfine ( , 2002, Demiralp, Preslopsky, and Whitesell (2004), Ashcraft and Bleakley (2006), Ashcraft and Duffie (2007), Bech and Atalay (2008), and Bartolini, Hilton, and McAndrews (2010), among others. Modified versions of this methodology are also employed by and Acharya and Merrouche (2010) to identify overnight lending activity in the U.K. CHAPS Sterling and by Hendry and Kamhi (2007) in Canada's Large Value Transfer System (LVTS).…”

“…2 Demiralp, Preslopsky, and Whitesell (2004) use a variation of Furfine's algorithm to assess the fraction of trades that are brokered within the fed funds market, as well as bank usage of arbitrage opportunities in the fed funds market. They mention the difficulty of identifying the prominence of Type I and Type II errors associated with usage of the algorithm, but document that algorithm-estimated results correspond well with trends displayed in brokered data.…”