Fed continues its market bailout

[Harry Hope]

Yesterday, the Fed pumped an extra $3.75-billion into the distressed
financial system, bringing to $101.25-billion the funds it has added
to money markets since it joined other central banks Aug. 9 in trying
to ease unusually tight credit conditions.

......................................................................................................

On Friday, the Fed unexpectedly slashed its discount rate to
commercial banks to 5.75 per cent from 6.25 per cent to help boost
liquidity in the banking system.

http://www.theglobeandmail.com/servlet/story/LAC.20070822.RFED22/TPStory/Business

August 22, 2007

Fed keeps tap open, stands firm on rate

BARRIE MCKENNA

WASHINGTON --

The U.S. central bank continued to pump funds into the troubled credit
market yesterday, but is so far resisting calls for an emergency cut
in its benchmark interest rate.

________________________________________________

Harry

 

[zzpat]

Harry Hope wrote:

>
> Fed keeps tap open, stands firm on rate
>

The Fed screwed up when they kept interest rates low - in the face of
record deficits. Now they're trying to postpone the inevitable. Mortgage
companies have to fail because that's how the system works but they're
trying to derail the system and make it look like they didn't create
this mess.

It's kinda like Bush creating his own intelligence network to feed him
fake intelligence. Everyone knew it was fake intelligence and no one
cared.

Everyone knows the Fed is protecting failed companies and no one cares.
America has ceased to exist in the real world. The illusionists are in
control.

There are no surpluses so there are no tax cuts. There are no WMD so
there is no "just war" and there is no real growth in the economy.

Reality sucks but it's better than the alternative.


--
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http://zzpat.bravehost.com

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[Jeff]

zzpat wrote:
> Harry Hope wrote:
>
>>
>> Fed keeps tap open, stands firm on rate
>>
>
> The Fed screwed up when they kept interest rates low - in the face of
> record deficits. Now they're trying to postpone the inevitable. Mortgage
> companies have to fail because that's how the system works but they're
> trying to derail the system and make it look like they didn't create
> this mess.

Mostly they aren't trying to keep mortgage companies from failing, they
are trying to keep credit rolled over to Main Street. That money has
gone into financing rollover of debt because traditional lenders are on
the sidelines warey of the unknown risk of our debt. Without the Fed
pumping in so much money there would be even more margin calls and
then... ka pow!

It's a far more dangerous situation than it appears on the surface.
It's all the central banks that are keeping things from imploding.

Google News on commercial paper.

Here's something here, for example:

<URL:
http://www.realclearpolitics.com/articles/2007/08/the_panic_of_2007.html />
The Panic of 2007
By John Mauldin

To say the credit markets are frozen is an understatement. Talking to
any number of people who have been in the markets for decades, this is
the worst in their memory. Ironically, it is the 100-year anniversary of
the Panic of 1907, when one banker (J. P. Morgan) stepped in and
provided liquidity to the markets. The central banks of the world are
providing liquidity; but as we will see, it is not mere liquidity that
is needed.

You cannot explain the problems with just one or two items. A perfect
storm of this sort takes a number of factors all coming together to work
its mischief. Bad mortgage underwriting practices, bad rating agency
practices, a destruction of confidence, excessive leverage and then the
withdrawal of that leverage, the need for yield, greed, and complacency
which then in a Minsky moment (explained below) becomes paralyzing fear
- all play their part.

An Alphabet Soup of Credit

But let's start at the beginning. In the early '90s, investment banks
created a new type of security called an Asset Backed Security (ABS).
And it was a very good thing. Essentially, investment banks would take a
thousand mortgages or car loans or commercial mortgages or bank loans
and put them into a security. You could have a Residential Mortgage
Backed Security (RMBS) or Commercial Mortgage Backed Security (CMBS) or
a Collateralized Loan Obligation (CLO) and then a Collateralized Debt
Obligation (CDO).

I am going to grossly oversimplify the following description, but the
principle is correct. Let's take a look at how a Commercial Mortgage
Backed Security is created. If you are a bank or institution, when you
make a loan on a mall or office building, you incur a certain amount of
risk. If you hold 100 such loans, you can almost be certain that some of
those loans are going to be bad. Further, you are limited in the amount
of loans you can make by the capital you have in your company. But what
if you could package up those loans and sell them? You get your cash
back, and then you can keep the servicing fees and make more loans. But
who would want to take the risk of your loans?

Through a form of financial alchemy, you can take your loans and
increase the quality of them to potential investors. Let's say you have
$100 million in commercial mortgage loans. You take this pool and divide
it up into 5-7 (or maybe more!) groups called tranches. The first group
gets the first (as an example) 60% of the principal which gets repaid.
That means that 80% of the loans would have to default and lose 50% (80%
of the loans times 50% loss is 40% total portfolio losses) of their
value before your money would be at risk. If the bank originating the
loan is not completely asleep at the wheel, your risk of an actual loss
is quite small.

So, an investment bank goes to a rating agency (Moody's, Standard and
Poor's, or Fitch) and pays them a fee to rate that tranche in terms of
risk. Since the level of risk is small, that first tranche gets an AAA
rating. Then the agency goes to the next group. Maybe it is 10% of the
pool. It would get all the principal repayments after the first group.
In this case, 60% of the loans would have to default and lose 50% of
their value before your group lost money. The ratings agency might give
this group an AA rating.

This process goes on until you get to the lowest-rated tranches. There
is typically an "equity" tranche which is about 2-4%. That tranche is
the last group to get its money repaid. In our example, if 8% of the
loans went bad and lost 50% (8% times 50% is 4%) of their value, the
equity tranche would lose all their money.


Now that's not to say the mortgage industry isn't in the pits. The
number of institutions that have gotten out of the mortgage business in
the last year is astonishing.

Jeff
>
> It's kinda like Bush creating his own intelligence network to feed him
> fake intelligence. Everyone knew it was fake intelligence and no one
> cared.
>
> Everyone knows the Fed is protecting failed companies and no one cares.
> America has ceased to exist in the real world. The illusionists are in
> control.
>
> There are no surpluses so there are no tax cuts. There are no WMD so
> there is no "just war" and there is no real growth in the economy.
>
> Reality sucks but it's better than the alternative.
>
>