Signs of improvement in Commercial Paper Market

Bloomberg reports today that commercial paper outstandings rose for the first time in eight weeks. However, the increase was a very modest $4.5 billion (by contrast, the decline in the first two weeks of the fall was roughly $90 billion per week, and the third week’s decline was just shy of $60 billion). Upcoming weeks will show whether there is meaningful recovery, or whether this week’s change is merely noise around a new, lower market level.

From Bloomberg:

The market where companies routinely borrow for periods of three months or less expanded for the first time in eight weeks as investors regained their appetite for some asset-backed debt.

U.S. commercial paper debt maturing in 270 days or less rose $4.5 billion in the period ended yesterday to a seasonally adjusted $1.86 trillion, ending the biggest decline in at least seven years, according to the Federal Reserve in Washington. Asset-backed commercial paper fell $6.1 billion.

Businesses rely on short-term debt to fund daily activities. Sellers of paper backed by assets such as mortgages were frozen out of the market in August and September as investors balked at debt linked to subprime home loans. The sudden shutdown fueled concerns that the housing slump would slow the economy, prompting the Fed to cut its benchmark interest rate on Sept. 18.

“We’re getting there very slowly,” said Mary Beth Fisher, an interest-rate strategist at UBS AG in Stamford, Connecticut. “Most of the bad stuff should be gone and everything left should roll over.”

Commercial paper had fallen by $368.1 billion, or 17 percent, since early August as investors retreated to the safety of government debt. Money market funds and mutual funds that invest in short-term debt securities are among the biggest buyers….

Overnight commercial paper yields 47 basis points more than the Fed’s target rate for overnight loans between banks. While the gap has narrowed from 4.76 percent on Aug. 10, it remains above the 18 basis point average over the past 12 months, signaling investors still have “nervousness,” Fisher wrote in a note to clients today.

The Fed lowered its benchmark federal funds rate by a half percentage point to 4.75 percent and reduced its discount rate, which it charges to lend to banks, a second time to encourage buyers of commercial paper after the market seized up for sellers of the debt.

Last week, the decline in the commercial paper market slowed, as the Fed’s move began to shore up confidence in the credit markets.

“These data, combined with persistent declines in commercial paper rates, are clear evidence of stabilization in the commercial paper market,” said Tony Crescenzi, chief bond market strategist at Miller Tabak & Co. in New York, in a note to clients.

The amount of commercial paper for all categories remains at its lowest since August 2006.

Asset-backed commercial paper has fallen $277 billion since Aug. 8 to $906.2 billion, the lowest since May 10, 2006, according to the Fed.

Sellers of asset-backed commercial paper use the cash to buy mortgages, bonds, credit card and trade receivables, as well as car loans. Some of the programs are backed by subprime loans, issued to borrowers with poor credit or high debt.

As defaults on subprime loans rose to record highs, investors retreated from any debt potentially linked to the mortgages.

About 16.3 percent of holders of subprime loans in bonds created in 2006 are more than 60 days overdue, based on the weighted average of 611 mortgage pools, according to data compiled by Bloomberg.

“Everyone’s just left the sector entirely,” Fisher said. “Everything that’s asset-backed and even vaguely mortgage- related has just been dumped.”

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