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Wednesday, September 24, 2008

Lehman, Money Markets, ABCP

Asset Backed Commercial Paper (ABCP) continues to implode.

The rapid contraction in ABCP might be part of the reason corporations in general are doing a mad dash for cash and financial firms specifically are hoarding all the liquidity the Fed keeps pumping in.

ABCP looks set to have started ‘another leg down’.

The default of Lehman Brothers (LEH) has hit the ABCP market hard and made a couple of money mark funds ‘break the buck’.

What Happened?

On Monday, September 15, Lehman Brothers Holdings Inc. filed for bankruptcy.

On Tuesday, September 16, Reserve Primary Fund, the oldest money fund, broke the buck when its share fell to 97 cents after writing off debt issued by Lehman Brothers.

On the same day, BNY Institutional Cash Reserves, a fund run by BNY Mellon, also broke the buck – its NAV fell to 99.1.cents – also due to Lehman holdings.

The resulting investor anxiety caused a run on the bank for money funds, as investors redeemed their holdings and funds were forced to liquidate assets or impose limits on redemptions: through Wednesday, institutional funds saw net outflows of $173 billion, to $2.17 trillion, a withdrawal of over 7%. Retail funds saw net inflows of $4 billion, for a net outflow from all funds of $169 billion, to $3.4 trillion (5%). The lack of retail outflows is attributed to the lag required for individuals to open a new account to transfer their funds out, and retail funds expected significant withdrawals the following week

On Thursday, September 18, Putnam Investments’ Putnam Prime Money Market Fund, a $12.3 institutional fund, announced that it was liquidating, due to redemptions.

In response, on Friday, September 19, the United States Treasury announced an optional program to "insure the holdings of any publicly offered eligible money market mutual fund — both retail and institutional — that pays a fee to participate in the program." The insurance will guarantee that if a covered fund breaks the buck, it will be restored to $1 NAV. This program is similar to the FDIC, in that it insures deposit-like holdings, and seeks to prevent runs on the bank. The guarantee is backed by assets of the Treasury Department's Exchange Stabilization Fund up to a maximum of $50 billion.

The program immediately stabilized the system and staunched the outflows, and drew criticism from banking organizations, including the Independent Community Bankers of America and American Bankers Association, who expected funds to drain out of bank deposits and into newly insured money funds, as these latter would combine higher yields with insurance.


Author said...

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Anonymous said...

" One trader with whom I spoke today thought that some of the flight to quality actually was an unintended consequence of the Treasury program to insure FDIC like deposits in money funds.
Here is the logic. The Treasury program only backs money that was there on September 19th and not new deposits. Mom and Pop call the huge money fund and say they want into the insured money fund. They hear that new money does not count. They opt instead for an all government fund. That drives demand for Treasury collateral in repo as well as the flight to bills."

The money funds with the insurance find themselves light on inflows and withdrawals which they would face in the normal course of business are not offset by new deposits. Ergo, they need to make sales to raise cash and those sales clutter the very short money markets."

It is an interesting and plausible theory,I think, but I could not find anyone who could verify for me."

Anonymous said...

But ...

HOW did the banks end up holding all that crap paper in the first place?

In happier times, say the 1980's, they had Repackaged Asset Vehicles, Trigger Bonds e.t.c. and they would light the fuse, sell it to someone (like Orange County) and watch the explosion from a safe distance.

Did they run out of marks?

Did they manufacture derivatives 'for the shelves' and book the shipments as 'sales'?

Did each bank think that it was the only one capable of gaming the ratings agencies into an 'A' rating on a crap bond so all the other bonds were Gold?

It is really weird I.M.O. that the banks would eat their own dog-food knowing what went into making it!

People who makes sausages do NOT eat them because they KNOW what 'made with special cuts of meat' means!!

What happened? Aliens shrunk their brains?