by Calculated Risk on 10/13/2008 05:36:00 PM

UPDATE: The WSJ article has been updated:

The U.S. government is set to buy preferred equity stakes in nine top financial institutions ... Not all of the banks involved are happy with the move but agreed under pressure from the government.

From the WSJ: Treasury to Roll Out New Approach to Credit Crisis

The Bush administration is expected Tuesday to roll out a wide-ranging effort to restore confidence to the battered banking system, following similar moves by European governments ...

The initiatives will likely supersede many of the government's previous efforts. They are being formulated jointly by the Treasury Department, Federal Reserve and Federal Deposit Insurance Corp...

[T]he Treasury [is expected] to take approximately $250 billion in equity stakes in potentially thousands of banks ...

[T]he FDIC is expected to temporarily extend its backstop from bank deposits to new senior preferred debt issued by banks and thrifts for three years. ...

Other moves could include temporary loan guarantees aimed at helping banks borrow the money they need to do business. ...

The current planning would bring the U.S. in to line with [Europe].

The title of the post is from this piece by Professor Krugman: Moment of Truth

by Calculated Risk on 10/13/2008 04:00:00 PM

The opposite of Cliff Diving.

Dow up just under 1000 points.

S&P 500 up about 100 points, and over 1000.

We will see over the next few days if the credit markets have thawed. This will be critical for the economy going forward.

However, the economic data will continue to be negative as the recession deepens.

by Calculated Risk on 10/13/2008 02:58:00 PM

From Mathew Padilla at the O.C. Register: See where foreclosures are stacking up in O.C.

[A] growing backlog of foreclosures threatens to push home prices further down, some economists and brokers say.
...
MDA DataQuick, in a special report prepared for the Orange County Register, found that as of early September there were more than 3,300 unsold foreclosures in the county. DataQuick looked at all foreclosures for the year ended in June, and checked to see how many had resold. It found 40 percent were unsold.

Matt provides maps of the unsold inventory and time to sell by zip code. So far the foreclosures are piling up in the lower prices areas of Orange County. Some may think that this is still a subprime problem, but in Orange County even the low priced areas have many homes that sold for above the conventional loan limits set by Fannie and Freddie back in 2004 and 2005.

The photo below shows a central orange county house that sold for $600,000 in 2005. Since the conforming limit was $359,650 in 2005, this home may have been bought with an Alt-A loan.

On Alt-A, see Tanta's "Subprime and Alt-A: The End of One Crisis and the Beginning of Another" and for those wondering about Alt-A "Reflections on Alt-A"


Photo credit: Rose Palmisano, The Orange County Register

This foreclosed 3 bedroom home sold for $600,000 in August of 2005.

This home is in the central orange county city of Anaheim.

by Calculated Risk on 10/13/2008 12:50:00 PM

From Bloomberg: EU Nations Commit 1.3 Trillion Euros to Bank Bailouts

France, Germany, Spain, the Netherlands and Austria committed 1.3 trillion euros ($1.8 trillion) to guarantee bank loans and take stakes in lenders ...

In Germany, Chancellor Angela Merkel pledged to guarantee up to 400 billion euros of lending between banks and set aside 20 billion euros to cover potential losses. It will also provide as much as 80 billion euros to recapitalize banks ...

In France, President Nicolas Sarkozy said the state will guarantee 320 billion euros of bank debt and set up a fund allowed to spend up to 40 billion euros ...

Spain's cabinet today approved measures to guarantee up to 100 billion euros of bank debt this year and authorized the government to buy shares in banks in need of capital.
...
The Austrian government will set up an 85 billion-euro clearinghouse run by the Austrian Kontrollbank to provide cash by holding illiquid bank assets as collateral. Austria also pledged to buy banking shares...

The Dutch government will guarantee up to 200 billion euros of interbank loans ...

Italy will guarantee some bank debt and buy preferred stock in banks if necessary ... without providing any figures.

As Nobel Prize-winning economist Paul Krugman noted this morning:

This sort of temporary part-nationalization ... is the crisis solution advocated by many economists — and sources told The Times that it was also the solution privately favored by Ben Bernanke, the Federal Reserve chairman.
emphasis added

This was generally the approach favored by Roubini (see Roubini's post today), Krugman and many others. When the history of the credit crisis is written, it will be interesting to understand why Paulson proposed his plan - even though Bernanke and others argued for the recapitalization plan.

by Calculated Risk on 10/13/2008 11:30:00 AM

From the WSJ: Paulson Calls Meeting of Bank Chiefs

The 3 p.m. meeting is being called while most of the banking chiefs are in Washington for meetings of the World Bank and the International Monetary Fund. Invited to attend were banking executives including Ken Lewis, CEO of Bank of America, Jamie Dimon, CEO of J.P. Morgan Chase, Lloyd Blankfein, CEO of Goldman Sachs Group; John Mack, CEO of Morgan Stanley; and Vikram Pandit, CEO of Citigroup.

... one person familiar with the matter said Secretary Paulson is expected to discuss details of his new plan to take equity stakes in financial firms ...

Apparently Paulson is considering making equity investments in strong banks to keep them lending. This would be voluntary. From Interim Assistant Secretary for Financial Stability Neel Kashkari this morning:

Equity purchase program: We are designing a standardized program to purchase equity in a broad array of financial institutions. As with the other programs, the equity purchase program will be voluntary and designed with attractive terms to encourage participation from healthy institutions. It will also encourage firms to raise new private capital to complement public capital.

by Calculated Risk on 10/13/2008 09:30:00 AM

Here are a few indicators I'm watching for progress on the credit crisis.

The yield on 3 month treasuries. (note: bond markets are closed for Columbus Day).


Click on graph for larger image in new window.

This graph shows the high, low, and the close for the three month treasury bill since the beginning of the year.

A good sign would be if the daily volatility subsides, and the yield moves up closer to the Fed funds rate, or about 1.25%.

The TED spread. The TED spread hit a recent high of 4.64 on Friday. This is far above the highs reached during the previous waves of the credit crisis.

Any significant decline would suggest progress, and a decline below 1.0 would indicate this wave of the crisis is over.

Edit: From Econbrowser:

One measure that is being used to summarize the strain in financial markets is the TED spread. This is calculated as the gap between 3-month LIBOR (an average of interest rates offered in the London interbank market for 3-month dollar-denominated loans) and the 3-month Treasury bill rate.

Usually the TED spread is less than 0.5%. The higher the spread, the greater the perceived credit risks (compared to "risk free" treasuries).

Activity in the Treasury's Supplementary Financing Program (SFP). This is the Treasury program to raise cash for the Fed's liquidity initiatives. If this program slows down borrowing, I think that would be a good sign.

Here is a list of SFP sales.

The A2P2 spread.

This is the spread between high and low quality 30 day nonfinancial commercial paper.

During a recession, this spread usually increases because the risk of default for lower quality paper increases. However the recent values (over 400 bps) are far in excess of normal. If the credit crisis eases, I'd expect a significant decline in this spread.

Industry contacts. I'm tracking some financing deals there are being held up right now. If these deals complete that would be a good sign (I'll post something when this happens).

Added:

The spread between the 2-year interest rate swap and the 2-year Treasury (recommended by bond guy)


In the comments, bond guy writes:

The T-Bill rates will probably take time to settle down. This means that the TED spread will probably be volatile for awhile.

I'd argue that a better indicator will be the 2-year swap spread (spread between 2-year swap rate and 2-year Treasury). If that can come down to 50 bps or so (from over 150), that would mean that the markets would be discounting spread normalization over the coming years.

by Calculated Risk on 10/13/2008 09:09:00 AM

From Bloomberg: Princeton's Paul Krugman Wins Nobel Economics Prize

Congratulations!

by Calculated Risk on 10/13/2008 09:06:00 AM

From MarketWatch: Mitsubishi UFJ invests $9 billion in Morgan Stanley

Mitsubishi UFJ Financial closed on a $9 billion equity investment in New York-based Morgan Stanley, giving the Japanese bank a 21% ownership stake. The buyer acquired $7.8 billion of perpetual non-cumulative convertible preferred stock with a 10% dividend and a conversion price pegged at $25.25 a share.

by Calculated Risk on 10/13/2008 02:42:00 AM

UPDATE: From the NY Times: Britain Props Up Banks as Fed Leads Funding Effort

The Royal Bank of Scotland — once viewed as among the most solid of Britain’s Main Street institutions — announced it would seek around $34 billion to boost its capital as part of a bail-out devised by Prime Minister Brown and Mr. Darling and offered as a global template to resolve the crisis. The bank said the British government would buy preference shares worth around $8.5 billion and underwrite the rest. The deal could mean that the British government will own almost 60 percent of Royal Bank of Scotland along with more than 40 percent of HBOS and Lloyds TSB, which are negotiating a merger.

From MarketWatch: U.K. agrees cash injections for RBS, HBOS, Lloyds TSB

The U.K. Treasury said Monday that it's agreed to make capital investments in Royal Bank of Scotland (RBS) and, upon a sucessful merger, HBOS and Lloyds TSB totalling 37 billion pounds ($63 billion).... It's also requiring banks to maintain the availability of competitively-priced lending to homeowners and has the right to appoint new independent non-executive directors.

£20 is being invested in RBS. £17 in HBOS and Lloyds (the merger is essentially being forced at this point). It sounds like the U.K. will own 43% of Lloyds-HBOS. I haven't heard the percentage in RBS. 

by Calculated Risk on 10/13/2008 02:16:00 AM

From the Fed: Federal Reserve and other central banks announce further measures to provide broad access to liquidity and funding to financial institutions

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.

The Fed never sleeps ...