Money markets us repo rate rises on debt supply

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* U.S. dealers seek funding for Treasuries settlement* Investors move back to stocks, less cash to lend* Deferred Eurodollars fall, front months steadyBy Richard LeongNEW YORK, June 29 A key borrowing cost for Wall Street banks rose on Friday as they sought funds to pay their purchases at this week's U.S. Treasury debt auctions that raised $99 billion for the federal government. The supply of dollars in the $1.6 trillion tri-party repurchase agreement market -- where Wall Street banks pledge U.S. Treasuries and other assets as collateral in exchange for cash -- shrank as investors moved money back into the stock market and other riskier investments after European leaders took further steps to manage their region's fiscal mess."The market was surprised since everyone seemed to be at odds heading into the summit," said Mike Lin, director of U.S. funding at TD Securities in New York. Euro zone leaders struck a deal on Friday to allow their rescue fund infuse cash directly into struggling banks from next year and intervene on bond markets to support troubled member states. The interest rate on repos due on Monday was last bid at 0.24 percent, 2 basis points higher than Thursday and up 13 basis points at the end of the first quarter."There is just a lot of collateral around at the end of the quarter and there is less money to fund them," Lin said.

Some of the cash was channeled into stocks on Friday. The three Wall Street indexes were up nearly 2 percent in midday trading. Primary dealers, those top Wall Street firms that do business directly with the U.S. Federal Reserve bought more than half of the two-year, five-year and seven-year debt at this week's U.S. Treasury auctions. Dealers and other investors who bought the bonds must pay the U.S. Treasury on Monday. During the course of reselling their purchases in the open market, primary dealers typically seek funding for their Treasuries positions. The quarter's steady rise in repo rates stemmed from the growing supply of short-term U.S. Treasury debt in the open market due to the Fed's Operation Twist.

Under Operation Twist, these Wall Street firms must bid on the short-dated Treasuries that the Fed sells for this bond program. The Fed in turn has used the proceeds to buy long-dated Treasuries with the goal to lower mortgage rates and other longer-term borrowing costs. In addition to a general rise in short-term interest rates, primary dealers are stuck with more short-dated debt supply. As of June 20, they owned $96.7 billion in Treasuries, of which $60.2 billion are in coupon debt that matures in three years or less, according to the latest Fed data available. At the start of Operation Twist which began last October, they held a combined $11.9 billion in Treasuries. Primary dealers had $4.8 billion in net short positions in coupon debt that matures in three years or less.

Last week, the Fed extended Twist, which was initially scheduled to expire on Friday, into year-end with planned purchases of $267 billion long-dated debt. This is on top of $400 billion it already bought. MIXED SIGNALS Other parts of the dollar funding market suggested lingering concerns about the banking system due to the sovereign debt problem in Europe and signs of slowing global economic growth, analysts said. Eurodollar futures for delivery after 2013 fell anywhere from 1.0 to 8.5 basis points on Friday, although most front-month contracts were unchanged to up 1.5 basis points. The steadiness in front-month Eurodollar futures helped narrow the risk premium on two-year interest rate swaps over Treasuries by 0.25 basis points to 24.25 basis points. Two-year swap spread, which is seen as a gauge on investor confidence, ended essentially unchanged in second quarter after flirting with 38.00 basis points in early June on fears over Spain's troubled banks and Greece's possible exit from the euro zone. In offshore dollar lending, the London interbank rate on three-month dollars was unchanged at 0.46060 percent. This rate benchmark for $370 trillion of financial products worldwide was down from 0.46815 percent at the end of March.