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Latest Developments
Fed to purchase an additional $750 billion of agency MBS and $300 billion of long dated Treasury securities: the Fed surprised the market by announcing that not only it was expanding the purchase of agency mortgage backed securities (MBS) in the hopes of lowering mortgage rates, but also it was purchasing long-dated Treasury securities to in effect lower the borrowing costs for the private sector. The Fed funds rates was left at close to 0% rates. The move underscores the Fed's stated intention to do everything possible to help the economy recover, and the rather dark current outlook. The Fed started purchasing long-dated Treasury securities almost immediately after it announced the program. The effect of these moves has been to lower mortgage rates to historical lows - currently 4.6% for 30 year conforming mortgages.
Treasury and Federal Reserve launch the TALF: the government announced that it will start lending through the Term Asset-Backed Securities Loan Facility that was announced late last year, and which is also a key component of the Treasury's Financial Stability plan. The first installment will be limited to $200 billion, but ultimately the facility is expected to enable the Fed to lend up to $1 trillion to financial intermediaries - unlike most other Fed programs that provide lending to depository institutions and more recently primary dealers, the TALF will open direct Fed lending to almost all financial intermediaries including hedge funds. The idea behind the TALF is to provide liquidity to securitized lending markets that have for the most part shuttered since October. Initially, the Fed will accept as collateral new, high-quality (AAA) asset-backed securities (ABS) backed by car loans, credit card debt, student loans, and small business administration guaranteed loans. The Fed expects that by April it will be open to accept ABS backed by rental, commercial and government lease vehicle fleets, and also those backed by small ticket equipment, heavy equipment and agricultural equipment loans. ABS backed by residential and commercial mortgages will be next on the list once the Fed and Treasury figure out a mechanism to reduce the risk to the taxpayer.
From the start of the crisis the Federal Reserve has been at the front of the response to contain the effects of the credit and later liquidity meltdowns that originated in the mortgage markets and have now engulfed the rest of the economy. Criticized for being an instrumental factor in the creation of the housing bubble due to the lax monetary policy under Chairman Greenspan, and later for moving too slowly to arrest the lurching stresses in the credit markets as they revealed themselves by July 2007, the Federal Reserve has since provided much of the leadership to deal with the strains in the economy. Through a large number of innovative programs that provide support to the banking system in the US, dollar liquidity to foreign central banks, and generate liquidity in key credit markets through the purchase of a variety of securitized assets, in addition to its more "traditional" instruments such as the reduction in the target federal funds rate and open market operations, the Fed has opened the money supply spigots to enable the economy to continue operating even in the face of severe liquidity constraints resulting from the collapse of many securitized markets in the US and around the world. In addition to these programs, the Fed has intervened and provided liquidity to institutions such as AIG, Bank of America, Citigroup and Bear Stearns/JP Morgan Chase. In the process, the Fed's balance sheet has ballooned to close to $2 trillion.
In simple terms, it is the (overnight) interest rate at which banks lend each other money (technically it applies to the balances that banks keep at the Federal Reserve to maintain reserve requirements, if a bank has a surplus, it can lend to others that are short of reserves). While the Fed does not directly lend money at this rate, it uses it as a target to ease or constrain the money supply. Since mid 2007, the target federal funds rate has gone from 5.25% to close to 0%, an unprecedented move to provide liquidity into the market. Given the severity of the crisis, the Fed has indicated that it will maintain its accommodative monetary stance.
For an analysis of the Fed Funds rate and future projections, visit the Fed Funds Rate Prediction Chart.
Introduced on December of 2007, the TAF was established to enable a larger set of depositary institutions (i.e. those that are allowed to take deposits from individuals and institutions), including US branches of foreign banks, to access term facilities whose total value at each auction can add up to $150 billion, for terms of 28 or 84 days. The Fed agreed to accept the same forms of "high-quality" collateral to secure the loans that are accepted under the "Primary Credit" program, which itself was expanded to 30 days and whose interest rates were lowered to only 25 basis points (0.25%) above the fed funds rate. At this point almost all kind of assets can be posted as collateral including mortgage backed securities, commercial paper, and structured debt obligations as long as they pass muster as being investment-quality and performing mortgages. The advantage of the TAF is that it provides a new source of liquidity at longer terms at lower cost to all depository institutions; for instance, while the primary credit program lends at 0.5% for up to 30 days, the 84-day TAF auction of February 23, 2009 lent money at a rate of 0.25%.
Just before the demise of Bear Stearns as primary dealers were undergoing severe liquidity problems because they could not dispose of many of their assets, the Fed introduced the TSLF on March 11, 2008. The TSLF provides the means for primary dealers to access Treasury General Collateral (e.g. Treasury Bills, agency paper, etc.) held by the Fed in exchange for eligible collateral (e.g. investment grade corporate securities, municipal securities, mortgage backed securities, asset backed securities, and other collateral eligible for repurchase agreements by the open market trading desk). The term of security exchange for the TSLF is 28-days, and auctions are held weekly and bi-weekly depending on the type of assets pledged. More information on the Fed's TSLF FAQ page.
In large part as a result of the collapse of Bear Sterns, on March 16, 2008, the Fed announced the creation of the PCDF: an overnight loan facility for primary dealers, which up to that point did not have access to the Fed's discount window. While initially only investment-grade securities (e.g. those rated by the rating agencies at Baa or BBB or better) were eligible to be posted as collateral, after Lehman Brothers went bankrupt that was expanded to include other forms of collateral. Other details can be found at the Fed's PCDF page.
The outset of the credit crisis and subsequent liquidity crisis created disruptions in markets around the world, as the demand for US dollars increased, the Federal Reserve entered into swap agreements with several central banks around the world to improve liquidity in the global financial markets. Banks participating are: the European Central Bank (ECB), the Swiss National Bank, the Reserve Bank of Australia, the Banco Central do Brasil, the Bank of Canada, Danmarks Nationalbank, the Bank of England, the Bank of Japan, the Bank of Korea, the Banco de Mexico, the Reserve Bank of New Zealand, Norges Bank, the Monetary Authority of Singapore, and Sveriges Riksbank. Through the swaps the Fed enters into an agreement upon which the foreign bank purchases US dollars using its local currency at the then market rate. The US dollars are then sold by the foreign central bank to market participants. At the same time that the purchase agreement is established, the foreign bank agrees to buy back its currency with US dollars at the same exchange rate as the original transaction, and to pay an interest rate on the amount of US dollars purchased. The terms for the transactions vary from overnight to three months. In total the US has agreed to enter into currency swap agreements with other central banks for up to $397 billion.
Introduced on September 19, 2008 after the demise of Lehman Brothers caused a money-market fund to be unable to return 100% of the deposits to its creditors due to losses on Lehman paper, which in turn resulted in the freezing of the credit markets and the start of a liquidity crunch. The AMLF primary purpose was to provide a guarantee, much like the FDIC guarantee on deposits, that money market funds will return at least 100% of the original amount to the creditors. This was done by allowing the purchase of high-quality asset-backed commercial paper from money market mutual funds by depositary institutions and bank holding companies. The depositary institution or bank holding company will receive a non-recourse loan from the Fed to purchase those assets. This allows mutual funds that are feeling pressured by redemptions to sell the high-quality commercial paper they own, and at the same time for the buyers to be guaranteed that they will not suffer a loss, therefore, providing the liquidity necessary for those funds to continue operating, and for the creditors of those funds to have the security that they will be able to redeem their assets. The Fed's AMLF FAQ page provides more information on this facility.
The commercial paper market funds working capital (short-term) financing needs of a large array of corporations, big and small. In September the commercial paper market came to a standstill and companies with high investment grade were unable to finance their working capital needs through this CP market. The Fed created a limited liability company, CPFF LLC to acquire three-month unsecured and asset-backed paper from eligible issuers. The CPFF LLC was funded by the Fed through the CPFF. There are a variety of limits and restrictions that issuers need to be aware of that are out of scope for this discussion; please refer to the Fed's CPFF FAQ.
Yet another facility that the Fed introduced to provide liquidity to money market investors. The purpose is to provide investors the assurance that they can maintain their near-term liquidity position at appropriate levels even if they hold longer term paper, by knowing that there is a purchaser for such assets. By having greater access to term financing (e.g. longer term financing), money market investors can augment the flexibility of banks and other financial institutions to provide credit to households and businesses. The way it works is that a series of special purpose vehicles (companies created specifically to invest in these assets) will be established by private financial institutions to purchase money market instruments from eligible investors. These instruments vary from Certificates of Deposit (CDs), bank notes, commercial paper and other that have a maturity between 7 and 90 days. The money from the purchases will come from sales of asset-backed commercial paper by these institutions and by borrowing from the Fed through the MMIFF at a rate of 9 to 1: the Fed will lend 90 percent of the purchase price of each eligible asset. The maximum amount authorized through the MMIFF is $600 billion, of which the Fed's exposure is $540 billion. All sorts of money market investors are eligible to participate under this program. Check out more details at the MMIFF's FAQ page.
Perhaps one of the more aggressive facilities announced by the Fed yet. The TALF will enable financial institutions to access Fed loans by providing as collateral asset-backed securities that are collateralized by student loans, auto loans and loans guaranteed by the Small Business Administration (SBA). These Fed loans will be non-recourse, meaning that the borrower only needs to surrender the collateral for the loan as means of repayment. As part of the Financial Stability Plan introduced on February 10, 2009, the TALF will be expanded to $1 trillion (from $200 billion), with $100 billion coming from the Treasury and the rest from the Fed to broaden its reach to securities backed by commercial mortgages and non-agency residential mortgages. Investors, including mutual funds, hedge funds, and others will have access to these facilities at very low rates. While this is probably the riskier of all the facilities that the Fed is implementing, its reach is the largest as it will try to revitalize the consumer market directly by providing liquidity to those facilities most associated with consumer spending. The importance of these markets is very large; the Fed estimates that securitized markets provided approximately 25% of all the lending for many of these consumer and small business loans. Additional details at the Fed's TALF FAQ.
Information on this page is provided courtesy of TrackTheStimulus.com. More detailed information on the stimulus can be found on that site. All rights reserved.