Armageddon Postponed - Fed Intervenes In Money Markets

The Fed has announced new liquidity measures this morning governing non-recourse funding of asset backed commercial paper and plans to purchase short-term debt obligations issued by Fannie Mae, Freddie Mac, and the Federal Home Loan Banks.

Here is the Fed Press Release On Liquidity Measures.

The Federal Reserve Board on Friday announced two enhancements to its programs to provide liquidity to markets. One initiative will extend non-recourse loans at the primary credit rate to U.S. depository institutions and bank holding companies to finance their purchases of high-quality asset-backed commercial paper (ABCP) from money market mutual funds. This should assist money funds that hold such paper in meeting demands for redemptions by investors and foster liquidity in the ABCP markets and broader money markets.

To further support market functioning, the Federal Reserve also plans to purchase from primary dealers federal agency discount notes, which are short-term debt obligations issued by Fannie Mae, Freddie Mac, and the Federal Home Loan Banks.

Statement Regarding Planned Purchases of Agency Debt

Statement Regarding Planned Purchases of Agency Debt

The Federal Reserve has announced that the Open Market Trading Desk (Desk) will begin purchasing short-term debt obligations issued by Fannie Mae, Freddie Mac and the Federal Home Loan Banks in the secondary market for the System Open Market Account.

Similar to secondary market purchases of Treasury securities, purchases of Fannie Mae, Freddie Mac and Federal Home Loan Bank debt will be conducted with the Federal Reserve�s primary dealers through a series of competitive auctions via the Desk's FedTrade system. A series of purchase operations are planned over the next several weeks.

Fed to Help Meet Fund Redemptions, Buy Agency Debt

Bloomberg is reporting Fed to Help Meet Fund Redemptions, Buy Agency Debt.

The Federal Reserve said it will lend to banks to meet demands for redemptions from money-market mutual funds and plans to buy agency debt from primary dealers to aid financial-market liquidity.

The Fed will extend loans to banks to purchase "high- quality" asset-backed commercial paper from money market funds, the Fed said in a statement in Washington. The loans will be at the discount rate, the Fed said. The rate is currently 2.25 percent. The Fed didn't provide a size for either initiative.

Investors pulled a record $89.2 billion from money-market funds on Sept. 17, according to data compiled by the Money Fund Report, a newsletter based in Westborough, Massachusetts. The U.S. Treasury separately said today it will use as much as $50 billion from the government's Exchange Stabilization Fund to temporarily protect investors from losses on money-market funds.

The central bank said it will buy short-term discount notes issued by Fannie Mae, Freddie Mac and the Federal Home Loan Banks "to further support market functioning." The New York Fed will conduct the purchases of debt through "competitive auctions" over the "next several weeks," the district bank said in a statement.

U.S. to Protect Money-Market Funds Against Losses

Bloomberg is reporting U.S. to Protect Money-Market Funds Against Losses.

The U.S. government will set aside as much as $50 billion to temporarily protect investors from losses in money-market mutual funds caused by the meltdown of financial markets.

The Treasury will insure for a year holdings of publicly offered money-market funds that pay a fee to participate in the program. Retail and institutional funds are eligible, the department said today in a statement.

Money-market funds are considered the safest investments after U.S. Treasury debt and bank deposits because they strive to guarantee that shareholders can always get all their cash back. Confidence in the $3.35 trillion industry was shaken this week when Reserve Primary Fund became the first in 14 years to break the buck, or drop below $1 a share, exposing investors to losses on debt issued by Lehman Brothers Holdings Inc.

"They're putting up a firewall," said Paul McCulley, managing director at Newport Beach, California-based Pacific Investment Management Co. "It's the ultimate nightmare to have a run on the money markets -- that is truly the Armageddon outcome -- and they're not going to allow that to happen."

"This came just in the nick of time," Peter Crane, president of Crane Data LLC in Westborough, Massachusetts, which tracks money-market funds, said in an interview. "We were likely going to see more funds halt redemptions" and break the buck.

Bolstering confidence in money funds is more important than the danger that the move will encourage funds to make riskier investments to boost yields.

"This has got moral written all over it, but as has been case throughout crisis, now is not tine to worry about moral hazard," he said.

Putnam Investments LLC said yesterday it closed its $12.3 billion institutional Putnam Prime Money Market Fund after an undisclosed amount of withdrawals. The Boston-based company said the fund closed at $1 a share and would return all cash to investors.

Armageddon Postponed

Paul McCulley says "It's the ultimate nightmare to have a run on the money markets -- that is truly the Armageddon outcome -- and they're not going to allow that to happen." I disagree. The ultimate nightmare is this action by the Fed, the Treasury, and the SEC.

Government manipulation can never prevent financial Armageddon. In fact, government intervention and manipulation in the free markets eventually guarantees financial Armageddon.

Armageddon was not prevented, only delayed, and at taxpayer expense. More on this later this morning.

Mike "Mish" Shedlock
http://globaleconomicanalysis.blogspot.com
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