New action by the fed: buying short term CP

[anigbrowl]

http://www.bloomberg.com/apps/news?pid=20601087&sid=aUHship97CzQ&refer=home
Oct. 7 (Bloomberg) -- U.S. overnight corporate borrowing costs fell as the Federal Reserve invoked emergency powers to create a special fund to backstop the commercial paper market. Seven-day rates soared to the highest since January.

Yields on top-rated overnight U.S. commercial paper dropped 0.74 percentage point to 2.94 percent, according to data compiled by Bloomberg. Borrowing for seven days increased 1.25 percentage point to 4 percent.

Fed Chairman Ben Bernanke is seeking to end the seizure in credit markets that has spread around the globe. Overnight rates soared to an eight-month high of 3.95 percent last week, from 2.08 percent less than a month ago, curbing companies' ability to finance day-to-day activities. Companies have struggled to issue longer-dated commercial paper since Lehman Brothers Holdings Inc. filed for bankruptcy Sept. 15 and money-market funds, the biggest buyers of the debt, moved away from the market.
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The Fed will lend against a special purpose vehicle at the targeted federal funds rate. The unit will purchase from eligible issuers three-month dollar-denominated commercial paper at a spread over the three-month overnight-indexed swap rate, according to a statement in Washington today.
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This is a pretty radical move. Hard to say how it will turn out - it's good that overnight rates are falling, but not by as much as 7 day rates have risen, though it'll probably take a few days to percolate through other rate periods. LIBOR took big jump last night (125 bp!), not least because they're having their own version of the banking crisis over in Europe. No word on how much liquidity the Fed is injecting into this market; they're not saying, but I'm going to guess 750 billion, on the assumption that they'll give preference to overnight, 7 day and one month lending. I could be completely wrong about that, it's just a hunch.

Fort those who are wondering, this isn't a giveaway, but a short-term credit option; the Fed will receive interest on its loans, so it won't be inflationary. It's supposed to last for only 6 months.

On a related note, an analyst at CITI was observing that the rise of LIBOR is going to drive rates higher for anyone with an ARM, and they're predicting a 10% increase in defaults. Ouchie.

[anigbrowl]

1. Well, we're only talking a trillion dollars or so, guess nobody is interested