> Everyone who have ever managed bond portfolio knows that he must hedge interest rate risk.
Just a thought: the UK gilt crisis in December was related to pension funds holding long term gilts. And these pension funds all properly hedge the interest rate risk, they normally don't care how rates evolve.
However, the market value of the gilts was changing too fast for the hedging to work. My understanding is that money couldn't be moved around fast enough to meet margin calls. Which then caused a bad feedback loop of forced liquidations of gilts, and the Bank of England had to step in to handle the crisis.
So with this new story of duration risk at SVB, I'm wondering now whether other banks are in danger. They may have hedged their duration risk, but what if the hedging mechanism turns out to be broken?
> the UK gilt crisis in December was related to pension funds holding long term gilts
No, you got it wrong.. UK pension funds didn't have much gilts. UK pension funds had swaps on gilts and mostly assets equal to long term gilts (AAA rated). Like for example ownership of a parking lots in Germany, apartments in Norway - safe, steady cash flows. This is what chasing yields at zero interest rates does.
Penions funds needed a window of few days to make a fire sale of these assets to meet their margin calls. It takes about two weeks from some junior analyst from BlackRock visiting said parking lot in Germany, checking books to BlackRock depositing money at UK Pension fund bank account. So Bank of England opened unlimited discount window for UK Pension funds for about two weeks. And then it closed.
Thanks for the correction, I indeed misremembered where exactly the margin calls came from.
I guess the gist of the point I was trying to make still stands though. SVB was not the first fallout from rising yields on long duration assets. There is probably more improper hedging of duration risk out there.
it's even worse than that. the pension funds were selling swaps (paying variable rates). that's why the BoE needed to step in to buy gilts - to drive the yield down and stop the bleeding from both the variable payout and capital losses incurred when liquidating gilts at a loss.
zirp has caused some pretty astounding fuckups and i'm sure there are many more to come.
Just a thought: the UK gilt crisis in December was related to pension funds holding long term gilts. And these pension funds all properly hedge the interest rate risk, they normally don't care how rates evolve.
However, the market value of the gilts was changing too fast for the hedging to work. My understanding is that money couldn't be moved around fast enough to meet margin calls. Which then caused a bad feedback loop of forced liquidations of gilts, and the Bank of England had to step in to handle the crisis.
So with this new story of duration risk at SVB, I'm wondering now whether other banks are in danger. They may have hedged their duration risk, but what if the hedging mechanism turns out to be broken?