The Fed’s move today to lend up to $200 billion against mortgage backed securities comes as close as one can without an act of Congress to affirming the implicit Federal guarantee of Freddie Mac and Fannie Mae debt. Its new facility, the Term Securities Lending Facility, will lend to primary dealers through 28 day auctions, exchanging Treasuries for mortgage-backed debt.
Note that this program also includes AAA rated non-agency debt. We noted last night that S&P and Moody’s are maintaining AAA ratings on subprime debt that is most decidedly not AAA according to their own standards. Before, we thought that concerns that the Fed was taking on toxic collateral were overblown. Given this new facility, and the failure of the rating agencies to give accurate grades, we will see the Fed lending against some less that terrific assets under this program (though the amounts may in the end prove to be minor).
This move also lowered somewhat expectations for Fed fund rate cut of 100 basis points to 2 percent, and raised odds of a 75 basis point cut to 60%.
As Steve Waldman tells us, this program will leave the Fed with $300 to $400 billion for further sterilizing interventions. The new moves, between the measures announced last Friday, and the ones today, have the Fed taking on an additional $340 billion in assets (a $40 billion increase in the TAF, the $100 billion new repo facility announced Friday, and the $200 Treasury/MBS lending program today). The Fed has only one more move like this in its arsenal. Paul Krugman pointed out that the Fed’s last two attempts to calm the credit markets (admittedly neither of them of this scale) did not provide lasting relief.
The Fed may finally be getting the commodities markets message on trashing the dollar. However, we are skeptical that this measure will have sufficient impact in the long run. Subprime mortgage resets peak in August, which leads to an increase in defaults, but foreclosures average 15 months after default. We haven’t even seen the worst of the housing crisis, yet the Fed has already used a great deal of its firepower.
A Bloomberg story details the coordinated international actions:
The Federal Reserve, struggling to contain a crisis of confidence in credit markets, will for the first time lend Treasuries in exchange for debt that includes mortgage-backed securities.
The Fed said in a statement in Washington it plans to make up to $200 billion available through weekly auctions, and officials told reporters the program may be increased as needed. The Fed coordinated the effort with central banks in Europe and Canada, which plan to inject up to $45 billion into their banking systems….
The Fed said it will lend Treasuries for 28-day periods in return for debt including AAA rated mortgage securities sold by Fannie Mae, Freddie Mac and by banks….
Last week, the Fed said it would make up to $200 billion available to banks in a separate initiative to help boost liquidity.
The Fed today set up a new tool, the Term Securities Lending Facility, to lend Treasuries to primary dealers for 28- day periods through weekly auctions. The Fed also said it’s increasing the amount of dollars available to European central banks through swap lines.
The Federal Open Market Committee authorized increasing currency swap lines with the European Central Bank and Swiss National Bank to $30 billion and $6 billion, respectively, increasing the ECB’s line by $10 billion and the Swiss line by $2 billion. The Fed extended the swaps through Sept. 30.
The ECB announced it will lend banks in Europe up to $15 billion for 28 days and the SNB announced a similar auction of up to $6 billion. The Bank of England will offer $20 billion of three-month loans on March 18 and hold another auction on April 15. The Bank of Canada announced plans to purchase $4 billion of securities for 28 days…
The Fed’s auctions of Treasuries, which will begin March 27, may be secured by collateral including agency and private residential mortgage-backed securities, the Fed said. The central bank “will consult with primary dealers on technical design features” of the new tool.
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“Given this new facility, and the failure of the rating agencies to give accurate grades, we will see the Fed lending against some less that terrific assets under this program (though the amounts may in the end prove to be minor).”
– How much detail does the Fed disclose with respect to the collateral it takes in these operations? Will there be even a high-level breakdown between Treasuries, Agencies and private securities?
Pardon my ignorance, I’m just learning this stuff, and I don’t know what I’m talking about:
So then will the banks actually sell these treasuries to get cash to pay the bills, or just count them as part of their reserves that they lend against (or make the balance sheet look less flimsy on loans already outstanding)?
When the fed lends in treasuries, do they expect to get paid back in treasuries?
If so, any bank that borrowed under this facility with the intent of spending the money would be counting on prices going down in a month so they could buy up enough to return them? Kinda like a put option?
And by flooding the market with treasuries the fed hopes to drive prices down and yields up? Isn’t that the opposite of what they want (to bring down yields on the 10yr)?
This latest Fed action was amied directly at Bear Sterns because they are on the verge of becoming unhinged and would be the first, of an anticipated several, large “bank” failures.
Just as I suspected. With a hundred billion here, a hundred billion there, pretty soon you’re talking about real money (at least until the dollar tanks again :-).
But quite frankly, what is the public getting in return for this $400 bil (and counting) federal guarantee?
Right now, while the bankers are crying uncle is the best time to force some much needed regulations and restrictions onto the industry. The only way to do that is to get Congress to explicitly provide the guarantee that the Fed is currently doing, and include in that legislation reforms of the industry.
Right now, the Fed has extracted nothing from the industry in exchange for this largesse. And once the industry is back on its feet, the cries of “Govt get off our backs” will inevitably start again.
I realize that creating a new regulatory scheme out of whole cloth will take some time. But the upside to waiting is that the banks’ positions are likely to get weaker still, which means their bargaining power vis-a-vis Congress will be even worse. As for the markets themselves, I don’t think a rise in risk premiums for agency debt is a catastrophic scenario for the typical Main St. borrower who’s already locked in his mortgage terms. If it leads to the implosion of a bunch of hedge funds, why, that’s just a bonus in my books :-)
As for the markets themselves, I don’t think a rise in risk premiums for agency debt is a catastrophic scenario for the typical Main St. borrower who’s already locked in his mortgage terms.
This implies that Fannie and Freddie have no business left to do, which is obviously false. People always need mortgages, whether for purchases or refinancing.
How is this any different than just an expanded TAF auction? As far as I know TAF accepts all types of ABS/MBS as it has the same collateralization reqs as the discount window (http://www.frbdiscountwindow.org/discountmargins.pdf)
Whats the main difference here?
The Fed has taken on the role of the rating agencies in hopes of propping up the value of these securities so that banks won’t go BK. This may be a necessary triage move given the possible outcome if they don’t. Where were these assholes when the bubble was forming ?
What really does this move do to ameliorate the crash in home prices ? Nothing. Home prices are still too high and the mortgage securities are worth less each day.
The owners of these securities have dug in their heels, waiting for the bailouts and expecting full payment for their bad investment choices. The Fed is essentially covering a margin call for the speculator crime families.
Ultimately, the crime families are going to have to take a huge haircut and underwrite below market assumable loans to make this junk really AAA. When does that move start ? Shouldn’t it be part of the bailout ?
Max,
You’re right. There’s still business to do. And it will get done, just at a higher cost, which I think is the right thing for this mess regardless. Remember that this whole mess started because credit was available on too easy terms and that the interest rates were too low, thus sparking the housing bubble.
Furthermore, I’m not sure that the Fed’s intervention is likely to save housing anyway, and indeed, I doubt that was the Fed’s point (since when have they started caring about homeowners rather than the markets?). Firstly, the problem with the current housing market is that prices are too high, and that the previous easy terms on which they were financed will not (and should not) come back. Secondly, many homeowners got loans they did not really qualify for because of loose standards. Those standards are tightening up, leaving a lot of people unable to refinance or buy a house.
In the end, the current mortgage market is being affected much more by the turn to stricter lending standards (no more liar’s loans, zero money down, teaser rates, or pie-in-the-sky appraisals), than by interest rates per se (which themselves are affected much more by long bond yields which continue to rise as inflation increases).
In other words, I think the housing market’s goose is cooked, regardless of what the Fed or Congress does at this point. Given that premise, the only thing that intervention in the agency debt markets does is save Wall St.