Two days ago I posted on some comments I heard on C-Span about the Fed taking on interest rate Tail Risk. The particulars were that if rates jumped 25-50 bps, the market value of the Fed’s holdings would drop by a sufficient amount to wipe out their capital. Yesterday rates jumped, and Zero Hedge posted this.
Today we get a brief glimpse of what will happen to the Fed’s balance sheet when rates surge. In the span of one day, the Fed took an $8 billion unrealized loss on its $1.07 trillion in Bonds, TIPS and Agencies. It also likely experienced a comparable loss on its MBS portfolio. It’s a good thing the Fed has $57 billion in capital accounts. Which means 4 days like today, and all of the Fed’s equity buffer is wiped out. What happens next is up to congress.
Today rates jumped again on the long end of the curve with the 30 year Treasury jumping 8 bps and 10 years jumping 5 bps.
The Fed does not mark-to-market, so it is not insolvent. But, it bought these assets at market value at times when it was working to suppress interest rates and therefore prop up bond prices. With rates moving, the assumption of this risk is panning out as planned. It is an unaccounted for gift to those from whom the bonds were purchased.