The Panic of 2007-2008 was a run on the sale and repurchase market (the "repo" market), which is a very large, short-term market that provides financing for a wide range of securitization activities and financial institutions. Repo transactions are collateralized, frequently with securitized bonds. We refer to the combination of securitization plus repo finance as "securitized banking", and argue that these activities were at the nexus of the crisis. We use a novel data set that includes credit spreads for hundreds of securitized bonds to trace the path of crisis from subprime-housing related assets into markets that had no connection to housing. We find that changes in the "LIB-OIS" spread, a proxy for counterparty risk, were strongly correlated with changes in credit spreads and repo rates for securitized bonds. These changes implied higher uncertainty about bank solvency and lower values for repo collateral. Concerns about the liquidity of markets for the bonds used as collateral led to increases in repo "haircuts": the amount of collateral required for any given transaction. With declining asset values and increasing haircuts, the U.S. banking system was effectively insolvent for the first time since the Great Depression. *We thank Lei Xie for research assistance, Sara Dowling for editorial assistance, numerous anonymous traders and bankers for help with data, and seminar participants at the NBER Crisis Conference, NY Fed, the Board of Governors of the Federal Reserve System, Texas, MIT, Harvard, LSE, the ASSA Meetings, the European Central Bank, the International Monetary Fund, the National Association of Business Economists, the Brookings Institution, the Santa Fe Institute, Fidelity, State Street, Wellington Capital Management, and the Moody's/Stern Credit Conference for comments. Also, thanks to Charles Calomiris, Yingmei Cheng, Kent Daniel, Chifu Huang, Kevin James, Manfred Kremer, Greg Nini, Richard Rosen, and Jeremy Stein for comments and suggestions. We thank Krista Schwartz for sharing her data with us. We also thank the anonymous referee. Finally, thanks to all those who emailed comments and suggestions. 1The 2007-2008 financial crisis was a system-wide bank run. What makes this bank run special is that it did not occur in the traditional-banking system, but instead took place in the "securitized-banking" system. A traditional-banking run is driven by the withdrawal of deposits, while a securitized-banking run is driven by the withdrawal of repurchase ("repo") agreements.Hence, we describe the crisis as a "run on repo". The purpose of this paper is to propose a mechanism for this new kind of bank run, and to provide supporting evidence for this mechanism through analysis of two novel data sets.Traditional banking is the business of making and holding loans, with insured demand deposits as the main source of funds. Securitized banking is the business of packaging and reselling loans, with repo agreements as the main source of funds. Securitized-banking activities were central to the operatio...
We construct an equally-weighted index of commodity futures monthly returns over the period between July of 1959 and March of 2004 in order to study simple properties of commodity futures as an asset class. Fully-collateralized commodity futures have historically offered the same return and Sharpe ratio as equities. While the risk premium on commodity futures is essentially the same as equities, commodity futures returns are negatively correlated with equity returns and bond returns. The negative correlation between commodity futures and the other asset classes is due, in significant part, to different behavior over the business cycle. In addition, commodity futures are positively correlated with inflation, unexpected inflation, and changes in expected inflation.
The Panic of 2007-2008 was a run on the sale and repurchase market (the "repo" market), which is a very large, short-term market that provides financing for a wide range of securitization activities and financial institutions. Repo transactions are collateralized, frequently with securitized bonds. We refer to the combination of securitization plus repo finance as "securitized banking", and argue that these activities were at the nexus of the crisis. We use a novel data set that includes credit spreads for hundreds of securitized bonds to trace the path of crisis from subprime-housing related assets into markets that had no connection to housing. We find that changes in the "LIB-OIS" spread, a proxy for counterparty risk, was strongly correlated with changes in credit spreads and repo rates for securitized bonds. These changes implied higher uncertainty about bank solvency and lower values for repo collateral. Concerns about the liquidity of markets for the bonds used as collateral led to increases in repo "haircuts": the amount of collateral required for any given transaction. With declining asset values and increasing haircuts, the U.S. banking system was effectively insolvent for the first time since the Great Depression. The current financial crisis is a system-wide bank run. What makes this bank run special is that it did not occur in the traditional-banking system, but instead took place in the "securitized-banking" system. A traditional-banking run is driven by the withdrawal of deposits, while a securitized-banking run is driven by the withdrawal of repurchase ("repo") agreements. Hence, we describe the crisis as a "run on repo". The purpose of this paper is to propose a mechanism for this new kind of bank run, and to provide supporting evidence for this mechanism through analysis of a novel data set.Traditional banking is the business of making and holding loans, with insured demand deposits as the main source of funds. Securitized banking is the business of packaging and reselling loans, with repo agreements as the main source of funds.Securitized-banking activities were central to the operations of firms formerly known as "investment banks" (e.g. Bear Stearns, Lehman Brothers, Morgan Stanley, Merrill Lynch), but they also play a role at commercial banks, as a supplement to traditionalbanking activities of firms like Citigroup, J.P. Morgan, and Bank of America.
Commodity futures risk premiums vary across commodities and over time depending on the level of physical inventories, as predicted by the Theory of Storage. Using a comprehensive dataset on 31 commodity futures and physical inventories between 1969 and 2006, we show that the convenience yield is a decreasing, non-linear relationship of inventories. Price measures, such as the futures basis ("backwardation"), prior futures returns, and prior spot returns reflect the state of inventories and are informative about commodity futures risk premiums. The excess returns to Spot and Futures Momentum and Backwardation strategies stem in part from the selection of commodities when inventories are low. Positions of futures markets participants are correlated with prices and inventory signals, but we reject the Keynesian "hedging pressure" hypothesis that these positions are an important determinant of risk premiums.* The paper has benefited from comments by seminar participants at
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