Manic Depressive Market

by Larry Levin

The major stock indexes each gained more than 11% today after the Federal Reserve confirmed that central banks would offer banks unlimited amounts of money and Europe said it would guarantee bank loans. According to the central banks, there is no longer a need to fear anything. They have declared all loans are good. They are backstopping all loans everywhere with unlimited amounts of money. Well, all loans that matter anyhow - not yours of course, unless you have a direct line to the Fed or your Senator. With this news and more, the depressive mood of last week turned manic today.

A partial transcript of the Fed's announcement:

In order to provide broad access to liquidity and funding to financial institutions, the Bank of England (BoE), the European Central Bank (ECB), the Federal Reserve, the Bank of Japan , and the Swiss National Bank (SNB) are jointly announcing further measures to improve liquidity in short-term U.S. dollar funding markets.

The BoE, ECB, and SNB will conduct tenders of U.S. dollar funding at 7-day, 28-day, and 84-day maturities at fixed interest rates for full allotment. Funds will be provided at a fixed interest rate, set in advance of each operation. Counterparties in these operations will be able to borrow any amount they wish against the appropriate collateral in each jurisdiction. Accordingly, sizes of the reciprocal currency arrangements (swap lines) between the Federal Reserve and the BoE, the ECB, and the SNB will be increased to accommodate whatever quantity of U.S. dollar funding is demanded. The Bank of Japan will be considering the introduction of similar measures.

Central banks will continue to work together and are prepared to take whatever measures are necessary to provide sufficient liquidity in short-term funding markets.

Federal Reserve Actions

To assist in the expansion of these operations, the Federal Open Market Committee has authorized increases in the sizes of its temporary swap facilities with the BoE, the ECB, and the SNB, so that these central banks can provide U.S. dollar funding in quantities sufficient to meet demand.

These arrangements have been authorized through April 30, 2009.

Shares of Morgan Stanley exploded more than any other today on the news that the Mitsubishi bank of Japan (MUFG) had closed the deal. The $9-billion investment into Morgan Stanley inspired the market in general to move higher. But at what cost?

Some people speculated that the U.S. government would directly invest in Morgan Stanley, but it did not. However, it was reported that federal officials were involved in the talks and assured MUFG over the weekend that its investment would be protected. Said another way, your tax dollars have been pledged to make a Japanese investment in Morgan Stanley guaranteed.

Did you get to vote on that? I guess we'll just add that $9-billion to the bailout tally.

According to the Wall Street Journal's online edition today, the U.S. government is expected to introduce a wide-ranging plan tomorrow to restore confidence to the banking system that will likely surpass many of its previous measures. The centerpiece of its latest effort is a plan for the Treasury to take about $250 billion in equity stakes in potentially thousands of banks by using funds from the $700-billion bailout package, the Journal said, citing people familiar with the matter.

And just like that (snap fingers here), the TARP only has $450-billion left in it for its original purpose of buying toxic loans. Anyone care to bet when the next $700-billion bill will be passed? Nationalization of banks and announcements of unlimited liquidity measures are not good things; however, today they are all the rage.

But that's not the end of the mindboggling spending; Fannie Mae and Freddie Mac are now going to buy $40-billion of troubled assets - PER MONTH! Fannie and Freddie began notifying bond traders last week that each company needs to buy $20 billion a month in mostly subprime, Alt-A and non-performing prime mortgage securities, according to the people, who asked not to be identified because the plans are (were) confidential. The purchases would be separate from the U.S. Treasury's $700 billion Troubled Asset Relief Program.

Out of Fannie and Freddie's current $5.5-Trillion mortgage portfolio, it is estimated that already holds $210-billion of bad debt. Now the Bush Administration wants to add 20% PER MONTH on top of it.

The endless bailouts have gone from absurd, to breathlessly large, to the surreal: it's like a never ending bad movie.

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Trade Date: 10/13/08

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