Tuesday, March 11, 2008

More panic from FED: TSLF.

After discount window did not work, Term Action Facility did not work, Fed today introduced Term Securities Lending Facility (TSLF). By now it sounds old to say that Fed has once again reached a new level of panic and is not hiding it. So let's get to the gist of this.

What's new about it is that Fed is now taking Mortgage-Backed Securities as collateral from banks - this is the toxic staff that nobody else in the market was buying. This also provides additional 200$ billion in liquidity to banks. For all practical purposes, what Fed is doing is temporarily emulating presence of buyers for MBS securities, with the caveat that banks still retain the risks associated with them.
The hope here is that while Fed buys some time for capital-impaired banks, panic subsides and investors start buying MBS securities again, saving the financial system from collapse. However, in my opinion, it is a false hope. In order to save the banking system, it is not sufficient that MBS securities start trading again. Banks need them to also trade at the prices that are close to the ones originally assigned to these securities. Otherwise banks will face huge writedowns that will wipe most of them out.
But no private party in their right mind would buy them at such prices, not with real estate tanking and US economy possibly being in a recession.

So my take on this is, Fed is only buying some time for banks, but not doing anything to fix the problem in the economy. As I have previously written, problem is that there is simply too much debt in the system compared to anything of real value, and the economy is choking under the debt load. Trying to shove more debt into the system, as TSLF does, only makes the economy look even more dysfunctional.

What stinks here, however, is if some of the banks go bankrupt in the meantime, Fed will be left holding billions of MBS on their books, for which Fed gave away money at face value. The losses on these will be ultimately borne by the taxpayers - folks like you and me. Which means the following: americans bought homes they could not afford, and are now defaulting on them in numbers, but despite accepting the bankruptcy hit and all the woes that come with it, they will still be paying for their abandoned homes. For a long time.

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