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Posted at 9:46am on Apr. 10, 2008 A Return to Stressed Conditions in the Credit Markets

Roller-Coaster

By blackhedd

Noted briefly this morning: the last several days have seen a return to stressed conditions in the bond and money markets, after a week or so of relative peace and quiet. The Treasury yield curve has bull-steepened again, indicating too much demand for short-dated Treasury debt.

The trigger for the disquiet was the Fed’s Term Auction Facility, which sold $50 billion in 28-day debt on April 7. The “stop-out” rate was unexpectedly high, which suggests that there are people out there who are short of liquidity.

Today, the New York Fed holds its third Term-Securities Lending Facility auction, which will be closely watched for signs that will confirm Monday’s results or not. And the market may react strongly in either direction.

With this report, I know I risk overemphasizing rapidly-shifting short-term behavior in the credit markets, that is ordinarily only of technical interest. But there is a larger theme: these markets underpin the real economy, and as long as they remain directionless and on hair-trigger alert, we can’t really get back to business as usual.

If anything is pushing us deeper into recession, this is it.

-Francis Cianfrocca ("blackhedd")

Posted in Bond market | Economy | federal reserve | liquidity crisis | money market | TAF | TSLF — Comments (5)/ Email this page » / Read More »

Posted at 8:36am on Apr. 9, 2008 Waiting for the Patient to Start Breathing Again

Liquidity Crisis and Credit Crisis

By blackhedd

As I told you yesterday, there are gathering signs that the liquidity crisis which has roiled money markets since early this year, and became a series of convulsions after the Bear Stearns collapse, is abating.

If conditions continue to stabilize and improve, then we can say that aggressive Federal Reserve intervention indeed solved a systemic liquidity problem that affected the financial system more seriously than similar problems in the past.

But if the defibrillator worked and the patient’s heart is beating again, we’re still waiting for him to start breathing. Dealing with the liquidity crisis doesn’t mean we’ve done anything to fix the credit crunch.

More…

Posted in credit crunch | Economy | federal reserve | liquidity crisis | risk management — Comments (25)/ Email this page » / Read More »

Posted at 9:55am on Apr. 8, 2008 Bond and Money Markets Are Creeping Back To Normal

I'm Breathing Again

By blackhedd

Noted briefly: recent aggressive actions by the Federal Reserve appear to be calming down the bond and money markets. These markets don't get nearly as much attention as the stock markets, probably because they're more arcane and harder to understand. But they're much larger than the stock markets. In general, they're the dog rather than the tail.

And they quietly went totally bananas during and after the Bear Stearns collapse, even as equity markets reacted in measured fashion. The Fed funds rate (which is usually closely correlated with a more important rate called the "general-collateral repo rate," bounced around violently from day to day. Short-term Treasury bills were in such short supply that the Treasury yield-curve steepened sharply, and for a brief period, repo interest rates on the three-month bill became negative.

In essence, the largest market participants around the world, including foreign central banks, battened down the hatches and traded as if the world were really going to end. (Their expectation was that the Fed would not be able to contain the damage and that more large firms would collapse as Bear Stearns did.) In this situation, credit was almost completely unavailable. If it had continued for any length of time, it could easily have had massive spillover effects in the real economy.

But the last three or four days have seen a significant return to near-normalcy. London LIBOR is back down to a reasonable range (indicating some revival of interbank lending). The Treasury yield curve is flattening. And the three-month Treasury rate is back to about 1.40%. The Fed's second Term-Securities Lending Facility auction last Thursday went very well. And new issues of corporate debt (Oracle, Citigroup, others) have gone quite well indeed. And retail mortgage rates are still falling.

I know this stuff is dry and technical, but I really want you all to be aware that these are extraordinary times, and that the danger to your own material well-being is real. And also that the Fed is on top of things, showing an aggressiveness that is highly unusual in central banks.

-Francis Cianfrocca ("blackhedd")

Posted in Bond market | Economy | federal reserve | money market | TSLF — Comments (30)/ Email this page » / Read More »

Posted at 8:27am on Apr. 7, 2008 Where’s All the Inflation Coming From?

And Where's It Going?

By blackhedd

It’s getting harder and harder to ignore the steady drumbeat of stories about inflation, particularly food-price inflation, around the world. Where is it all coming from, and who is it going to hurt?

Among the drivers for record-high grain and oilseed prices are uncooperative weather in many regions of the world, and increased demand from Asian nations that now have enough money to start consuming more calories and more protein.

But at the end of the day, the only way to get inflation, especially the pervasive inflation that’s showing up in industrial commodities as well as grains, and more recently in European wages, is to have too much money chasing too few goods.

With some exceptions, we know there aren’t too few goods, because economic production is up everywhere in the world except for the US. So where’s the extra money coming from?

It’s coming from us.

More…

Posted in Economy | federal reserve | inflation — Comments (35)/ Email this page » / Read More »

Posted at 8:07am on Apr. 4, 2008 Financial Markets Are Human Too

Fever for Regulation

By blackhedd

You may or may not have noticed Treasury Secretary Paulson’s speech last Monday, in which he unveiled a blueprint for modernizing the Federal government’s regulation of financial markets.

If you did notice it, you probably yawned. The report has been in the making for over a year, and although it contains a lot of good ideas, it’s neither directly responsive to the current market disorders, nor particularly likely to be enacted in whole or in part.

The editorialist at the New York Times noticed the speech, however. Their (predictable) response is that Paulson’s plan is far too reluctant to clamp down on market behavior that can result in stress (and crisis).

Unfortunately, I don’t get much sense that the editorial powers at the New York Times have direct knowledge of how real markets work. As it turns out, markets are human too.

Let me tell you what I mean…

Posted in Economy | federal reserve | Financial regulation | new york times | Paulson — Comments (5)/ Email this page » / Read More »

Posted at 6:27pm on Apr. 2, 2008 "That Was an Extraordinary Thing To Do"

"I thought about it long and hard"

By blackhedd

Fed Chairman Ben Bernanke testified in Congress today about his team's handling of the Bear Stearns collapse, story here.

I'm among the many people who have written at length about how the Fed formed an external entity funded with $29 billion, in order to purchase mortgage-backed securities from Bear.

Here's what the Chairman had to say about that part of the episode:

``That was an extraordinary thing to do, I thought about it long and hard,'' Bernanke said, referring to the funding. ``I hope this is a rare event, I hope this is something we never have to do again.''

I'm going to take Bernanke at his word on this. The Federal Reserve (unlike the Treasury, at various points in history) has never exhibited a taste for exceeding its charter to anchor the nation's money supply and its payments system.

Extraordinary times require extraordinary actions, from extraordinary men.

-Francis Cianfrocca ("blackhedd")

Posted in bailout | Bear Stearns | Bernanke | Economy | federal reserve — Comments (4)/ Email this page » / Read More »

Posted at 7:03am on Apr. 2, 2008 Congress Considers A Mortgage Bailout

The Scene Shifts to Washington

By blackhedd

As I told you yesterday (here), the Federal Reserve's aggressive measures to stabilize the financial system appear to be paying off, at least in the near term.

But the scene is shifting to Washington, as Capitol Hill Democrats hurriedly consider a home-mortgage bailout, perhaps by expanding the mandate of the Federal Housing Administration (FHA).

As I wrote here, there are very good reasons to oppose a straightforward bailout, in which taxpayer funds would provide relief to people who are either unable or unwilling to stay current on their mortgage payments. If you agree with me, today would be a very good day to call your Senator and tell him or her about it. Particularly members of the Senate Banking Committee, chaired by Christopher Dodd of Connecticut. (The ranking Republican is Shelby of Alabama.)

And Mr. Dodd spoke in the Senate on this subject yesterday (prepared text here).

I warned you that this was coming. What Senator Dodd said, in essence, is this: "the Administration [sic] just spent $30 billion in taxpayer money to bail out Bear Stearns. We're gonna kick their butts for doing that, starting tomorrow. But now that we saved Wall Street's bacon, we have to do the same thing for homeowners."

More...

Posted in Christopher Dodd | Economy | federal reserve | FHA | Mortgage Bailout | Senate Banking Committee — Comments (53)/ Email this page » / Read More »

Posted at 8:38am on Apr. 1, 2008 Finally, a Winning Formula at the Federal Reserve?

The Term Securities Lending Facility May Be Working

By blackhedd

As much as I hate to subject you all to this, here's a piece of seriously complex Federal Reserve news. I'll explain it as best I can, however. The bottom line appears to be: it's good news.

You've certainly heard that the Bernanke Fed have been doing unprecendented, aggressive and creative things in their attempts to stabilize financial markets. (To mitigate the effects of a US recession is an entirely different problem, and not the current priority.)

One of the things the Fed did was to set up a Term-Securities Lending Facility, or TSLF. What the heck is that?

It's a weekly auction, to be held every Thursday for the next six months. The Fed will offer liquid, risk-free Treasury securities from its inventory, in return for specific kinds of risk-bearing securities, notably mortgage-backed securities. They just held the first one on March 27, and although the results are not unambiguous, the auction does seem to have had a material positive impact on the money markets.

Keep reading.

Posted in Economy | federal reserve | housing | Mortgage Crisis | Subprime | Term Securities Lending Facility — Comments (18)/ Email this page » / Read More »

Posted at 7:16am on Mar. 29, 2008 More on The Federal Reserve's St. Patrick's Day Massacre

The New York Fed Puts on a $29 billion Trade

By blackhedd

Two days ago, I wrote here on the widely-reported $30 billion loan that the Federal Reserve made as part of brokering the acquisition of the Bear Stearns Companies by JP Morgan Chase (the "St. Patrick's Day Massacre").

I now have much more information on what this deal is all about. I guessed quite wrong about the deal structure. The $30 billion loan is not a term repo as I originally thought. Nor is it likely to generate monetary losses for taxpayers. (In fact, the opposite is true.)

But it is something bold and different that's worth understanding. In fact, it's a major milestone event in the monetary and financial history of the United States.

Before I launch into this, let me set the context by reminding you why all this financial mumbo-jumbo is important: it's because of politics. Even before the full effects of the credit crisis make themselves felt, we're already deeply into a paroxysm of "the sky is falling! What is the government going to do about it?" I'll be posting as much as I can on this subject in the coming days and weeks, because there is at least as much danger to the real economy from a mad dash toward new regulations and Federal involvement, as there is from the financial-system disorders themselves.

Keep reading...

Posted in bailout | Bear Stearns | Economy | federal reserve | JP Morgan Chase | SIV — Comments (49)/ Email this page » / Read More »

Posted at 9:56am on Mar. 26, 2008 Hot Money

How the world invests

By blackhedd

I was the first person I know to write about the similarity between the credit crisis that erupted in early summer of 2007, and the Long-Term Capital Management Crisis of the early fall of 1998. How did I make the connection? By observing how the prices of various asset classes were moving relative to each other.

Modern risk management depends on predicting these relationships with mathematical models. Late last spring, asset prices started doing things that were supposed to be impossible. Just as in the summer of 1998.

The 1998 crisis had no impact on the real economy. If you weren't paying attention, you weren't even aware of it. The prior year, however, there was a financial crisis that had a devastating impact on the real economies of a number of East Asian nations, including Thailand, South Korea and Indonesia.

It just occurred to me that there is a similarity between now and 1997.

More...

Posted in Economy | federal reserve | subprime crisis — Comments (20)/ Email this page » / Read More »

Posted at 9:40am on Mar. 24, 2008 The Next Wave of Economic Policy Decisions

You Can't tell the regulations without a scorecard

By blackhedd

As we swing into a new workweek, the financial markets are on edge, even with rumors afoot that JPMorgan Chase will consider quintupling their offer to acquire the Bear Stearns Companies to $10 a share.

Among the key elements in the news background is a continuing sharp fall in commodities prices (gold, oil, and industrial metals are all down again this morning). I told you about this here.

And flying well under the news radar, the last few days have seen some exceptional disruptions in the overnight interbank repo market (that's the market in which banks get the money they need to make loans and honor withdrawals). One of the key rates is this market is the interest rate you would pay if you wanted to borrow money overnight using a three-month Treasury bill as collateral. This rate literally became negative late last week.

What does that mean? It means banks don't want to lend money to each other. You couldn't ask for a more textbook illustration of a credit crisis.

What I wanted to talk about this morning, however, is the changing landscape for government policy as it relates to management of the financial system. There are at least two new major policy initiatives making the rounds in Washington. In a word, regulation is making a comeback.

More...

Posted in Economy | federal reserve | Glass-Steagall Act | regulation | shadow banking system — Comments (29)/ Email this page » / Read More »

Posted at 12:29am on Mar. 19, 2008 So The Fed Instituted A 75 Basis Point Cut . . .

By Pejman Yousefzadeh

And left people like me--who were expecting a hundred point cut--quite surprised. But Wall Street reacted well. In correspondence with Brother blackhedd, my fellow Contributor at RedState, he informs me that contrary to what was widely reported in the news, the 75 basis point cut was not as much of a surprise to traders as we might have been led to believe and that the market was perhaps heartened that the Fed did not believe that a cut of a full percentage point was needed. By keeping the cut to 75 basis points, the Fed left room for itself to fight inflation while at the same time, stimulating economic growth. A larger cut may have evinced panic about market conditions and the last thing the Fed wanted to do was to panic. The market's upward movement was a signal of its admiration.

Fair enough. Brother blackhedd knows much concerning these matters and given the fact that I want to be an optimist, I am more than happy to hope that his optimistic appraisal of the situation is the correct one. But the following from this story:

The two dissenters in Tuesday's decision were Richard W. Fisher, president of the Dallas Fed, and Charles I. Plosser, president of the Philadelphia Fed, both of whom have been outspokenly hawkish about inflation issues in recent months.

Several analysts said the dissent and the Fed's warning on inflation indicated that policy makers struggled to agree on even the smaller rate reduction.

"I'm disappointed," said Robert V. DiClemente, chief United States economist at Citigroup. "It's not as if we're trying to gauge policy priorities on a sunny day. I'd like to know how you're going to get inflation in an environment with suffocating financial restraint and pervasive slowing in demand."

These are my concerns as well. And one wonders how easily Bernanke will be able to engender another rate cut in the current environment if he has to. Will the other members of the Federal Reserve Board shut down such efforts for fear that they might exacerbate inflationary pressures? I would think that a weakened economy will do a good enough job of that--the precedent of stagflation notwithstanding.

Posted in Economy | federal reserve | Interest rates — Comments (8)/ Email this page » / Read More »

Posted at 9:16am on Mar. 18, 2008 Steady As She Goes

Markets looking ok this morning

By blackhedd

Markets are looking healthy and happy so far this morning.

Goldman Sachs and Lehman Brothers both announced earnings last night that were putrid, but not as bad as expected and both will rise sharply when the stock market opens. (Goldman should rise about 6%.)

The worry about Lehman is that they’ll be the next to get what Bear Stearns got. But I heard no rumors yesterday that anyone is pulling short-term funds out of Lehman or that anyone major is refusing to trade with them.

JP Morgan is going to open up another 4%. The market is confirming my interpretation that they stole Bear Stearns.

Asian and European stock markets all up. Oil, gold, and grains are all back up somewhat after yesterday’s plunge. The dollar is up against the yen (the Japanese are breathing easier since it didn’t break down below 95 yen) and flat against the euro.

We have a regular scheduled meeting of the Federal Reserve’s Open Market Committee today. I expect they will drop the Fed funds rate a full percentage point. That news will be out around 2:15pm EDT.

It’s too early to express the hope that the death of Bear Stearns was the climax of a really bad quarter and things will stabilize from here. But as long as you remain wary, I won’t blame you for hoping.

Let the debate begin as to whether the Federal Reserve did the right thing by extending to Wall Street firms the emergency liquidity facilities normally used by banks. To me, it's very clear that they did the right thing.

Steady as she goes.

-Francis Cianfrocca ("blackhedd")

Posted in Bear Stearns | Economy | federal reserve | Markets — Comments (28)/ Email this page » / Read More »

Posted at 11:48am on Mar. 15, 2008 An Important Note About the Bear Stearns Situation

It's Not about saving the company

By blackhedd

There's an important point that should be emphasized about the rescue of the Bear Stearns Companies that was announced yesterday morning. (We debated it vigorously here.)

Much of the debate centers on whether the Federal Reserve improperly used taxpayer dollars to save some very wealthy men from the consequences of their bad decisions.

But this is a misreading of both the situation and of the rescue. Herewith some clarifications.

More...

Posted in bailout | Bear Stearns | Economy | federal reserve — Comments (66)/ Email this page » / Read More »

Posted at 7:20am on Mar. 12, 2008 Why the Stock Market Went Up 400 Points Yesterday

The Fed acts on Mortgage-backed securities

By blackhedd

After three days in a row in which the Dow Jones Industrials Average fell by more than 100 points, taking it to a multi-year low, stocks rallied sharply in New York on Tuesday. Meanwhile, the dollar rose from just under $1.55 against the euro to about $1.534, and crude oil (a hedge against dollar-inflation) fell to about $108.

As they smiled over the discomfiture of New York State Governor Eliot Spitzer, Wall Streeters reversed yesterday because of an announcement by the Federal Reserve: an unusual new asset-trading facility that, it is hoped, will stabilize markets for securities backed by mortgages that are not subprime.

You may have read the piece I posted on this subject here on Monday morning. At the Fed, they evidently read the same tea leaves and decided on a drastic course of action.

More...

Posted in Economy | federal reserve | Term Securities Lending Facility | TSLF — Comments (22)/ Email this page » / Read More »