NEW YORK Feb 6 (Reuters) - U.S. overnight repo rates eased on Monday but are likely to remain relatively high in the near term as money market funds reduce loans in the asset class and short-dated supply increases.
Overnight repo rates traded at around 13 basis points on Monday, down from around the high-20 basis point area last week.
Repo rates have been pressured higher in recent weeks by dealers adding to already large inventories of collateral that need to be financed by purchasing short-dated debt from the Federal Reserve as part of its Operation Twist program.
U.S. money funds have also been reducing loans in repo as increasing risk appetite leads investors to withdraw from the ultra safe funds, and as the money funds tentatively return to bank lending through commercial paper and certificates of deposit.
"We're seeing money funds reallocate money out of the overnight repo market and into bank credit," said Kenneth Silliman, head of short-term rates trading at TD Securities in New York.
"The thawing of bank credit happened at a time when dealers were also trying to absorb an exceptionally high amount of paper," he added.
The Fed is expected to sell another $200 billion in short-dated debt as part of Operation Twist, according to Barclays Capital. The program involves selling short-dated debt to fund longer-dated purchases that the Fed hopes will reduce long-term borrowing rates.
The Treasury has also been unexpectedly increasing the size of its Treasury bill auctions. One-month bill rates saw a slight backup on Monday after it said it will sell $37 billion in four-week bills, up from previous one-month sale of $33 billion.
The U.S. also sold $31 billion in six-month bills on Monday at yields of 10 basis points, the highest level since August.
Money funds are continuing to see fund redemptions, which is leading them in turn to reduce repo lending.
Money fund assets have fallen by around $50 billion from January 11 through early February, according to the Investment Company Institute.
"That certainly takes its toll," said TD's Silliman. "When funds see those decreases, rather than selling paper those decreases come out of the most liquid assets and a lot of times that's overnight repo."
Interbank lending rates continued to ease on Monday, based on the benchmark three-month dollar London interbank offered rate. The Libor rate dropped to 0.52325 basis points and is down from over 0.58100 basis points at the end of the year.
The premium charged to swap three-month euros into dollar loans was relatively steady at around 0.75 percent, down from recent highs of around 1.60 percent but still higher than the 0.40 percent area where the swap had traded in mid-2011 before fears over Europe flared.