The Fed is throwing a massive lifeline to money market funds AFTER the crisis has passed and investors are entering the pool again on their own. Consider today’s story from the Financial Times:
The US Federal Reserve on Tuesday said it would finance up to $540bn (€410bn) in purchases of short-term debt from money market mutual funds to shore up a key pillar of the US financial system.
Money market funds have faced severe redemption pressures since the financial crisis deepened last month, forcing them to raise cash by scaling back their short-term lending to banks and selling their holdings of commercial paper.
This retreat has contributed both to a freeze in the interbank market and a steep decline in activity in the commercial paper market, which has made it difficult for banks and companies to raise short-term funds….
“The short-term debt markets have been under considerable stress in recent weeks as money market mutual funds and other investors have had difficulty selling assets to satisfy redemption requests and meet portfolio rebalancing needs,” the Fed said.
Lawrence Fink, chief executive of BlackRock, the asset management group, said: “This is a very big event. This is the first thawing that I really see in terms of helping the commercial paper market unravel itself.”
Under the scheme the US central bank will lend money to five special purpose vehicles, to be managed by JPMorgan Chase, tasked with purchasing assets from money market funds. These assets are low-risk paper, including certificates of deposit, bank notes and commercial paper with three-month maturities or less.
Now consider yesterday’s Financial Times article, “Record inflows into money market funds“:
Investors are pumping a record amount of cash into money market funds as they rush to the safest instruments amid the market turmoil.
In spite of co-ordinated central bank action to inject liquidity into the markets and sweeping measures from governments to shore up the beleaguered banking sector, investors are still shunning riskier investments.
Money market funds, which are considered safe because they tend to buy US Treasuries, absorbed $44.4bn last week, the largest inflow since 2001, according to fund tracker EPFR Global.
Money market funds were hit last month when one fund, Reserve Primary Fund, “broke the buck”, or returned investors less money than they paid in. But this was a fund that invested in commercial paper rather than Treasuries.
Cameron Brandt, global markets analyst at EPFR, said: “Investors want something that is safe in a very volatile market, with equities swinging sharply from one day to the next.
“However, they also want flexibility and the ability to pull their money out quickly when they consider the time is right to switch into equities. This is something they can do with money market funds.”
However, in spite of the latest inflows, money market funds have not yet made up for their outflows during September – in one week last month investors pulled $200bn from the funds.
This is the one area of the money markets that is recovering nicely on its own, yet the Fed targets it for emergency action with a massive program, AFTER the Treasury has implemented a short-term insurance program.
Willem Buiter criticized the Fed at Jackson Hole for being unduly sensitive to the financial service industry’s demands. Today’s action yet again proves him right.
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Yves-
There is an interesting distinction between assets available for purchase between the CPFF (Commercial Paper Funding Facility) and the newly minted MMIF.
The CPFF can only buy the CP of domestic issuers, while a (very) careful reading of the MMIF press release from the Fed appears leaves open the possibility of purchasing non-domestic issuers. Many of the large money funds are 25-40% invested in European bank CP and have exposure to term (not overnight) maturities.
I wonder if this facility was created to buy the MM Funds out of their European bank paper?
Otherwise, why bother? Why a second facility? My theory is that the MM Fund industry was in the process of not rolling over European Bank CP, and this facility was created to act as a bridge to the European Banks so that they would not have funding problems. The initial CPFF is not flexible enough to handle such an issue.
I know that if I were managing a large MM Fund (which I did many years ago), I would not want to be exposed to ANY European names right now.
A lot of folks are focused on the SIV-like nature of the structure, but I think that is a misdirection. The structure is a incidental detail that is overshadowed by the original reason to create the facility.
This action leaves me concerned regarding the ongoing precarious state of the money markets, notwithstanding the recent easing in Libor rates and TED spreads.
I’ll wait to see more details before I stress out over this one. The shift of 500 or so billion from commercial MM to treasury MM during the crunch to date basically means the Fed is sitting on about 500 billion than should be in commercial paper. If that money flows back then this will have to get topped up from the Paulson fund and I will be happy, happy, happy to see the Paulson monies used for this kind of thing.
Well, actually, there’s one thing I will stress about:
Under the scheme the US central bank will lend money to five special purpose vehicles, to be managed by JPMorgan Chase,
Morgan AGAIN! It’s simply not acceptable for the Fed to do everything through one bank. There is something very fishy going on here .
Money market funds, which are considered safe because they tend to buy US Treasuries
I stopped reading the article right there.
Matt Dubuque
The crisis has not passed in the money markets, FAR from it for a variety of reasons.
The program at issue was implemented for a variety of reasons, including the very tight restrictions it placed on its other CP program.
And to quote this critical phrase from the cited FT article of yesterday:
“However, in spite of the latest inflows, money market funds have NOT YET made up for their outflows during September – in one week last month investors pulled $200bn from the funds.”
Buiter’s much ballyhooed Jackson Hole paper was the same one in which he excoriated the Fed at length (around 13 pages as I recall) for adopting a “risk management” approach to central banking during this crisis.
Any casual read of his blog shows that he has now abandoned his strict monetary targeting approach and adopted precisely the risk management approach he ridiculed the Fed for taking.
That was also the paper in which he described the phrase “tail risk” as “jargon”.
Matt Dubuque
Yves some statements from the term sheet.
“The MMIFF is intended to help restore liquidity to the money markets.The MMIFF will be a credit facility provided by the Federal Reserve to a series of special purpose vehicles” That old liquidity schtick again..
“Each PSPV will only purchase debt instruments issued by ten financial institutions designated in its operational documents. Each of these financial institutions will have a short-term debt rating of at least A-1/P-1/F1…the debt instruments of (a single) financial institution may not constitute more than 15 percent of the assets”
Is that the 9 + 1? Does several make 30-70?
“Eligible investors will include U.S. money market mutual funds and over time may include other money market investors.”
“Each PSPV will finance its purchase of an eligible asset by selling ABCP and by borrowing under the MMIFF. The PSPV will issue to the seller of the eligible asset ABCP equal to 10 percent of the asset’s purchase price. The ABCP will have a maturity equal to the maturity of the asset and will be rated at least A-1/P-1/F1 by two or more major NRSROs. The Federal Reserve Bank of New York (FRBNY) will commit to lend to each PSPV 90 percent of the purchase price of each eligible asset until the maturity of the asset. The FRBNY loans will be on an overnight basis and at the primary credit rate. The loans will be senior to the ABCP, with recourse to the PSPV, and secured by all the assets of the PSPV.”
Do not see any foreign (though not excluded)
Structure very SIV/MLEC-like and seems to be designed to (re)finance/guarantee CP issuance of 10+ major financial institutions.
By my math:
If the limit of issuers per SPV is 10 and there are 5 SPVs, the maximum number of names that can be invested across the 5 SPVs is 50. The minimum number of names, given a 15% issuer maximum, will be 35.
Plenty of room for the top 12-15 European Banks. And GE Capital.
From Swervin’ Mervyn on UK conditions…
“The age of innocence — when banks lent to each other unsecured for three months or longer at only a small premium to expected policy rates — will not quickly, if ever, return,” King said. “I hope it is now understood that the provision of central bank liquidity, while essential to buy time, is not, and never could be, the solution to the banking crisis, nor to the problems of individual banks.”
I know I can ask this at any one of these steps that the Fed takes, but if they continue this way and they will guarantee every investment vehicle on the planet, at what point does the US run out of money? Or rather at what point does its creditors stop lending? I understand that it is not in the current interest of our creditors to make us do a default but there has to be a point when even they will say enough is enough and the US will go down the way Iceland did. Except there will be no bail out for us. And I have to admit I am not as good a fisherman as our Viking brothers.
“The problem was much worse than we thought,'' Jim Bianco, president of Chicago-based Bianco Research LLC, said in a Bloomberg Television interview. Policy makers are trying to prevent “Great Depression II'' by stemming the financial industry's contraction, he said.
JPMorgan Chase & Co. will run five special units that will buy up to $600 billion of certificates of deposit, bank notes and commercial paper with a remaining maturity of 90 days or less. The Fed will provide up to $540 billion, with the remaining $60 billion coming from commercial paper issued by the five units to the money-market funds selling their assets, central bank officials told reporters on a conference call…
Funds are being drawn down because people are hoarding cash. People hunker down in their abodes and don’t even bother to ask for loans. These things just kill the banks. When business stop asking for loans, because they laid everybody off, it’s over for the banks. Government will issue cash and people will still hoard and be in survival mode. Can’t force people to spend especially when they are the ones stuck paying down the banker’s debt through taxes or some other means.
As a thought experiment, what would happen if the governments of the world simply declared credit default swaps null and void and refused to let the counterparties honor them?
It seems as if some speculators would be ruined, and some financial institutions that used CDS to insure their assets would end up with less capital than they were supposed to have.
But maybe simply nullifying the CDS altogether would produce cleaner, more predictable results than trying to keep them in force for 30 years.
Financial CP Outstanding grew from from 741bn 8/27/07 to peak at 886bn 5/21/08 fell 80bn from there to 9/10/08 and 218bn since then. with domestic financials (foreign and US owned) consisting 70% of that.
Over the same period MM Funds shifted 360bn out of prime funds and into Govt and Treasury funds.
600bn seems to exceed the reductions in financial CP by a large amount, with at least the potential to support issuance up to 1.4Trn a 60& % increase over the peak.
Sorry that’s 1.1trn and 35% increase
Like faireconomist – I too am suspicious that yet another Fed rescue is facilitated through JPM.
Now, we like to think that the Fed knows the bigger picture – which us mere mortals in the blogsphere don’t have. But what if that bigger picture is not aiding the money markets at all. Perhaps it is to provide much needed cash-flow for JPM to ease its way through the systemic stresses wreaking havoc everywhere else. JPM has the largest portfolio of derivatives on planet Earth (in the tens of trillions of dollars). Are we witnessing preventative measures against another LEH-like disaster – but 10x bigger.