The money markets, which have just about managed to keep going for much of the financial crisis, became the latest credit market sector to falter in September. Several banks required government injections or were nationalized as wholesale lending markets froze.
Trading in commercial paper plummeted, with outstanding volumes falling by $60.1 billion in a week, 3.5% of the market, while spreads on CP skyrocketed (see chart). Elsewhere, the spread between overnight and three-month money went negative, while the US dollar spot Libor-OIS spread broke 200 basis points on September 25.
| Spread record |
| CP spreads reach new highs |
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| Source: Federal Reserve |
"Liquidity is at a premium, with the only term buying occurring in one to three months of mostly sovereign and supranational paper using the central banks; other than that it’s overnight or a maximum of three or four days," explains one head of CP trading. The trouble started in the US, when the Lehman Brothers default caused shares in the Reserve Primary Fund to fall below $1 – known as breaking the buck. As investors scrambled to pull out of the fund, RPF put a seven-day freeze on redemptions.