Money markets signs of stress emerge behind ecb cash shield

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* Cheap ECB loans seen as reliable shield against Greek mess* Rates still falling, but trading becomes more "name specific"* Some small signs of interbank stress show upBy Marius ZahariaLONDON, Feb 16 The hefty amount of cash floating around in the euro banking system is generally offsetting fears that a potential messy Greek default could severely hit lenders across the bloc, but tentative signs of stress in the interbank lending market are emerging. Worries that Greece may not get a second bailout are making banks more reluctant to lend to each other again, with traders saying bank-to-bank lending has turned even more "name specific" in recent days, meaning only the strongest banks were active. Benchmark interbank rates continued to fall, with the European Central Bank's injection of nearly half-a-trillion euros into the banking system last year providing comfort. Banks can also take as much of the extra cheap loans as they want at a similar tender at the end of the month. But some signs of stress can still be spotted.

The Markit iTraxx index of credit default spreads for European senior financials - measuring the cost of insuring against a bank defaulting on its debts - has risen by almost 50 basis points in the past 10 days to above 240 bps. But it was still more than one full point below the highs seen in November before the ECB first announced its three-year funding plans."The chance of a liquidity squeeze has been (lowered) but you cannot fully neglect the chance of default from a bank which has exposure to a peripheral country, not only to Greece," said Benjamin Schroeder, rate strategist at Commerzbank."Interbank risks are obviously increasing. If you think contagion can get out of hand problems in interbank markets could (appear) again."

He also said spreads between forward rate agreements and overnight index swaps (OIS)-- a widely used measure of stress in the interbank lending markets -- could re-widen if Greek tensions increased. Morgan Stanley strategist Elaine Lin said the euro Libor/OIS spread, now at 62 basis points, could expand towards 100 bps in case of a disorderly default, levels last seen in early 2009 after the shock of the Lehman Brothers collapse. Another stress measure that is widely used, the cost of swapping euro interest payments on an underlying asset into dollars as measured by the three-month cross currency basis swaps, widened by 4 bps to minus 79.5 bps.

That is still less than half the levels seen in November and some of the widening presure in cross currency markets may also have been triggered by expectations that the Dutch State Treasury may want to swap some of the around $3 billion worth of its first dollar bond being sold on Thursday into euros. ENHANCED FIREWALL Interbank rates maintained their downward trend. The three-month London Interbank Offered Rate for euros, or Libor , dropped to 0.96821 percent on Thursday versus 0.97821 percent on Wednesday. Equivalent Euribor rates also fell"Contagion will be higher in a blowout scenario," Lin said, adding that markets are still expecting the Greek situation to be dealt with in an orderly fashion."But the fact that the ECB is doing the (three-year lending) and the fact that we are at a juncture of doing another one or even the likelihood of an outright QE (quantitative easing) tends to enhance the firewall."As long as a chaotic default is not the main scenario the impact on money markets should be minimum, because "banks' balance sheets have almost written down the entire Greece holdings and U.S. exposure has wound down to minimum", she said.