Fed To Buy Commercial Paper

October 7, 2008 at 9:42 am  ·  Category: Federal Reserve, Market Commentary

The CPFF [Commercial Paper Funding Facility] will provide a liquidity backstop to U.S. issuers of commercial paper through a special purpose vehicle (SPV) that will purchase three-month unsecured and asset backed commercial paper directly from eligible issuers.

FOMC Statement on Commercial Paper Funding Facility (CPFF)

The Fed is going to do everything…. including selling the White House furniture…. to keep the economy going.

– Bob Pisani, CNBC NYSE Floor Report, “There Are Positives – So Why No Rally?”, The Trader

Perhaps the biggest problem in financial markets today is in the commercial paper market, a short term financing vehicle widely used by companies across all sectors of the economy (For a good explanation of commercial paper and how it works see “Commercial Paper Primer”, The Bonddad Blog, Tuesday 10/7). 

When The Reserve Primary Fund broke the buck due to its holding of Lehman commercial paper, a panic ensued among money market investors who pulled their money.  Because money market funds are one of the biggest purchasers of commercial paper, this significant source of funding for companies dried up and many experienced a cash crunch as they couldn’t roll over their commercial paper.  Even GE and Caterpillar got caught up in this mess.

The Fed today moved to unlock the commercial paper market by saying they will set up a special entity to purchase commercial paper.  That means that other buyers of commercial paper shouldn’t have to worry about being paid back because the issuer can now issue commercial paper to the Fed to pay back the initial lender:

By eliminating much of the risk that eligible issuers will not be able to repay investors by rolling over their maturing commercial paper obligations, this facility should encourage investors to once again engage in term lending in the commercial paper market.

The hope here is that this will unlock this important source of financing.

The cost, of course, is now the Fed is on the hook if companies can’t repay what they borrow – and this brings in a whole new swath of companies that will be borrowing from the Fed.  Rumor has it that the Fed is in negotiations to sell the White House to the Abu Dhabi Investment Authority which would then lease it back to the US government 😉

Posted by Greg Feirman  ·  Trackback URL  ·  Link
 

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