Coming up. This is a story about how systematically
there are absolutely crazy things going on that are hidden behind complexity
and PhDs saying things like nothing to worry about. Here. We’ve got
it all calculated as experts. Ultimately re hypothecation is
like a game of musical chairs. The banks are playing it, the banks know that they’re playing
it and right now we have signs, the banks think that maybe the music’s
going to stop and they should probably go ahead and secure their chair.
And when the music does stop, we’re going to find out that a lot of
people who think they own certain assets don’t really own them. Hey
everybody, Jeff Nabers here. In previous videos we’ve covered what’s
happening with these fed repo market bailouts. Are they really bail out? And in this video I want to cover the
number one question that has been asked in the comments below those videos. And
that is why are these bailouts happening? Specifically, I want to speak to
the underlying securities involved. So the federal reserve is giving banks
money and the banks are giving the fed securities, in most cases a us treasuries. So the reason the fed has to step in
and do these transactions is because the banks normally do these
transactions with each other, but they stopped more specifically. Let’s look at the risk and the return
involved in these transactions. So these underlying treasuries are
earning a rate of return of about 2% annualized. They’re supposed to be viewed as having
no risk as if the government has no chance of defaulting. But the reason the fed stepped in is
because of the rate of these repo loans in the marketplace Rose to 10% so if you
think about the banks involved in these transactions, they’ve got treasuries
that make 2% yet they need money so bad, they’re willing to borrow at a rate of
10% on the other side of the transaction. You’ve got another bank who takes a look
at a risk free 2% and essentially is signaling to the marketplace
that is not risk-free. I am not willing to take that 2% treasury
unless you compensate an additional 8% for the risk. That is a very big
spread. This is why it’s very alarming. So the real question is what do
the banks know that we don’t know? What would cause these banks to go from
viewing treasuries as no risk to viewing treasuries as having so much risk that
they need 10% interest instead of two? Well, I’ve uncovered two
possibilities here. Number one, for treasuries to truly be risk-free
assets where at 2% interest rate would be reasonable for essentially no risk, then you’d have to believe that the
government would never default on its debt and that we’ll always be able
to pay its debt. Okay, well, when you look at the government
debt, the debt is going up. Now, that in and of itself is not really a
bad thing because as long as it has the ability to pay it back, no problem. But the debt to GDP ratio
would be staying flat. If the government’s ability to repay
its debt wasn’t getting worse and worse. Unfortunately, what we see is that the government’s
debt to GDP ratio is increasing, which means that with every dollar the
government borrows, in other words, with every treasury bond,
the government issues, the ability for the government to pay
that debt back is getting worse and worse and less and less likely. Additionally, the information that is just sitting in
plain view that most people don’t like to talk about is that the government’s
debt is much bigger than its published figures. When you look at this chart, the blue bars and the debt is the
debt that everyone talks about, but if you want to talk
about the total debt, you have to include the
unfunded liabilities. The unfunded liabilities are even bigger
than the published debt and if you include those, our debt to GDP ratio isn’t 106% it’s
over 300% so out there in the general market, people are being told they should view
treasuries as risk-free because they should view the government as having
no chance of defaulting on its debt. Yet the government debt is much, much higher than as being
published and it is questionable. How are they going to pay this debt? We’re not just having
good years and bad years. Where they get that goes up and
down. It just goes up and up and up. The only caveat to that is
with the unfunded liabilities, the unfunded liabilities did drop
during the affordable care act. That’s because unfortunately
the affordable care act
cut some reimbursements to hospitals and that alleviated
some of the unfunded liabilities. I don’t think more of that is going
to be a way to resolve the debt. So one possibility is that the banks know
something that we don’t know about the government’s ability or lack
thereof to pay its debt, which is what’s required for these
treasury bills to perform. Now, the second reason that the banks may be
viewing these treasuries as too risky and not worth taking as collateral
is because they don’t actually exist. Okay. It sounds crazy, but
here’s what I mean by this. We’re talking about re hypothecation
re hypothecation is when a person or an organization takes an asset and
then pledges it as collateral. So far so good. Then re hypothecation is what occurs
when they pledge it as collateral again with someone else in another transaction. Think about this with housing
your house is your collateral, so if you want a mortgage loan,
you pled your house as collateral. The important piece is how much is
your house worth and how much are you borrowing against it. If your house is worth $1 million and
you borrow $700,000 then that creates a 70% loan to value ratio or LTV. If you think back to the 2008 crisis, what occurred was a lot of people
were getting very high in their LTVs. They were borrowing 100% of the house
as value or at the peak of the mania. Sometimes more than that. Now re
hypothecation is actually worse than that. Rehypothecation would be like if you
went to one bank and borrowed 700,000 and put up your million dollar
house as collateral and then
went to another bank and got another 700,000 and then gave them
that million dollars as collateral, you would have one point $4 million
borrowed off of the same $1 million asset that’s re hypothecation but alas, it gets worse still. The problem with re hypothecation is
there’s no real way to track it and it can get out of hand really quickly. One party could actually pledge collateral
then pledge that same collateral again and then pledge that same collateral
a third or fourth or fifth time. And because our system is so fragile, there’s no way to track that in
this hypothecation is occurring. The best estimates are that the treasuries
are rehypothecated it three times. What this means is that for every three
parties who believe that they own us treasuries, only one really has the U S treasuries
the other to have essentially a fake version. I know this sounds
crazy, but this is real. So the re hypothecation is out there and
it’s estimated to be at about the same levels that it was happening in
2008 so back to the repo markets. What may be happening is that when one
bank is offered to loan money to another bank and then received
treasuries as collateral, that bank might not want to if they
think that those treasuries aren’t really theirs or have been pledged as
collateral for other loans as well. This has been happening in
the market of physical gold. It’s been happening in securities and it
is happening the most with treasuries. So what does all this mean? Look, this isn’t a story about a
single bank or a single person, although surely books will
be written about that later. This is a story about how systematically
there are absolutely crazy things going on that are hidden behind complexity
and PhDs saying things like nothing to worry about here. We’ve got
it all calculated as experts. Ultimately re hypothecation is
like a game of musical chairs. The banks are playing it, the banks know that they’re playing it
and right now we have signs that the banks think that may be the music’s gonna
stop and they should probably go ahead and secure their chair. And
when the music does stop, we’re going to find out that a lot of
people who think they own certain assets don’t really own them. Ultimately, when you strip away all the complexity
and all the conceptual stuff PhDs are giving us, our financial system is actually very
fragile and there are far less assets in existence that are
appearing in our accounts. So those stocks that
you see in your account, are those really yours or the same
stocks showing up in multiple people’s accounts? Are the dollars in your bank
account really yours or again, are those the same dollars showing
up in multiple people’s bank account? My message to you is if the banks think
the music is about to stop and they’re securing their chairs, then maybe the music is about to stop
and maybe you should secure your chair. Maybe you should bail out
yourself. If you’d like to do that. Then I’m doing another session
of my emergency briefing. We just did it this past Monday. Unfortunately it was so over attended
that we crashed the webinar server. A lot of people got kicked out.
I’m very sorry that happened. We’re doing it again. Let’s go ahead and click the link below
in the description to register for free for my emergency briefing and I’ll look
forward to seeing you live answering questions. They’re also a big thanks to Caitlin long
who pinned a great article in Forbes. If you want to read more
about re hypothecation, she’s an ex managing director of Morgan
Stanley and really knows what she’s talking about with this and I’ll put that
link below in the description to also in that emergency briefing we’re going
to cover how bail outs might turn to bail ins and what that means to you and
your assets and what you can do as an investor to prepare
and to profit. Alright. If you’re enjoying my financial insights, click the like button please and
subscribe and hit the notification bell as well. I’ll see you in the next
video and probably before
that I’ll see some of you in the emergency briefing. Thanks
again. Have a great day.