Thin Gruel in Paulson Statement re Fannie, Freddie; Fed Opens Discount Window

For those looking for some concrete action (which was what many market participants hoped for), Paulson issued a statement that amounts to hand waving. Full text from Bloomberg:

Fannie Mae and Freddie Mac play a central role in our housing finance system and must continue to do so in their current form as shareholder-owned companies. Their support for the housing market is particularly important as we work through the current housing correction.

GSE debt is held by financial institutions around the world. Its continued strength is important to maintaining confidence and stability in our financial system and our financial markets. Therefore we must take steps to address the current situation as we move to a stronger regulatory structure. In recent days, I have consulted with the Federal Reserve, OFHEO, the SEC, Congressional leaders of both parties and with the two companies to develop a three-part plan for immediate action. The President has asked me to work with Congress to act on this plan immediately.

First, as a liquidity backstop, the plan includes a temporary increase in the line of credit the GSEs have with Treasury. Treasury would determine the terms and conditions for accessing the line of credit and the amount to be drawn.

Second, to ensure the GSEs have access to sufficient capital to continue to serve their mission, the plan includes temporary authority for Treasury to purchase equity in either of the two GSEs if needed.

Use of either the line of credit or the equity investment would carry terms and conditions necessary to protect the taxpayer. Third, to protect the financial system from systemic risk going forward, the plan strengthens the GSE regulatory reform legislation currently moving through Congress by giving the Federal Reserve a consultative role in the new GSE regulator’s process for setting capital requirements and other prudential standards.

I look forward to working closely with the Congressional leaders to enact this legislation as soon as possible, as one complete package.

One can assume that the per the bouquet to Congress, the Treasury ascertained that it lacks statutory authority to go beyond the support it is permitted to offer the GSEs established in their charters (credit lines of $2.25 billion, which in the late 1960s was real money). As jck at Alea points out:

So the original, 40 year old, credit line was 2.25/15 = 15% of outstanding debt, to go back to that ratio requires $231 billion for fannie and freddie…

Probably more important is that the Fed has opened the discount window to the GSEs, but this again looks like symbolism rather than substance, since accessing the discount window is seen as a sign of weakness (that was one of the reasons for the establishment of the Term Auction Facility, which accepts the same types of collateral on the same terms as the discount window, but provides longer-dated loans and most important, the identity of borrowers is not disclosed).

I have been a skeptic of whether the so-called Plunge Protection Team exists (or more accurately, whether it engages in active market support operations as the conspiracy minded believe).

Given the weakness of the steps taken so far, tomorrow has the potential to reveal footprints if such activities take place.

One thing I do expect to happen is that the powers that be will lean on various financial institutions to bid at the $3 billion Fannie sale of short-dated bonds tomorrow. That is a no-brainer and treads on the margin of what one might consider PPT type manipulation.

Firmer evidence would come via odd trading patterns in the S&P. On January 22, the Dow fell nearly 400 points on open, and the S&P also tanked, I don’t have access to detailed historical charts of intraday pricing, but the S&P looked as if there was a massive support bid (if I recall right, at 1255). It wasn’t spiky, which is what you’d expect from normal bottom fishing buys.

That was only one data point, and there may have been some bizarre technical trigger for bids at that level. But it looked very unnatural. If we see a similar pattern, Monday, my suspicions will increase.

Update 8:50 PM: Asian markets save Australia have opened up and the dollar has rallied a tad, so the cheery words and hand waving may have worked for now.

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  1. Anonymous

    I find it shocking that you, a cock-eyed, rational person, would be on the brink of accepting the idea that direct intervention would be performed so overtly.

    Why does this substantially change your mind? Is it only the paucity of anything substantial in their above-the-table actions, and a suspicion that they’ll feel something more concrete will be necessary to shore up confidence at this point?

    To me, there’s nothing more dangerous nor less predictable than a cornered, frightened animal, so I’ve never ruled out the possibility of less… conventional actions. I’m hardly a rational individual, though. :D

  2. James

    I trade the spoos for a living at the CME and I completely agree with your observation about january.

  3. Yves Smith

    I try to be empirical, which is pretty hard these days given that much of what passes for information is either spun or comes from people who are well intentioned but have ideological or perceptual biases.

    The problem with the idea of PPT type operations is the lack of statutory authority for expenditures. But can the powers achieve similar results through other mechanisms? I don’t rule that out, but the supporting evidence has been underwhelming. That January trading, however, was very odd.

  4. Anonymous

    The evidence that the “Plunge Protection Team” exists seems pretty good. The question is how many times they have interfered in markets and will they interfere with markets in the future.

    The President (or the Fed) doesn’t believe he needs statutory authority for many things, but that hasn’t stopped him from doing them.

  5. Anonymous

    By the way, the 22 January chart doesn’t convince me of anything. But I feel that the PPT almost certainly exists.

    Also to think that there isn’t “insider trading” at the Fed and Treasury by the workers there who know about government decisions before they are announced to the public would be naive. Where there is that much money, there is greed. And where there is greed, there is corruption.

  6. Anonymous

    here’s the most thorough report I’ve seen on the actual evidence of the PPT. Strangely enough, it was prepared by Sprott Asset management, which is one of the premier outfits in Canada, and recently went public.

    a good sober analysis of the possibility of PPt activity:

    Sprott Asset Management

    Move Over, Adam Smith:
    The Visible Hand of Uncle Sam

  7. Anonymous

    Thin gruel? The Sunday night timing suggests that consultations over the weekend pointed toward continuing whackage of Fannie & Freddie on Monday morning, with a retest of Friday morning’s apocalyptic lows on deck. After the Friday night FDIC takeout of Indymac, the last thing they need is two much larger dying whales, flopping helplessly on the beach.

    jck nails it with his comment that “the original, 40 year old, credit line was 2.25/15 = 15% of outstanding debt; to go back to that ratio requires $231 billion for fannie and freddie.” It’s ludicrous and comical that forty years of reckless money printing has turned $2.25 billion into small change for Fan & Fred. It’s a kind of insidious bracket creep for the neglected CONgressional spawn. Now the child support bill has come due. LOL!

    Also, Paulson’s expectations of attaching new authority to an existing bill to be passed THIS WEEK indicate great urgency. Stock futures are taking this seriously, and so do I. USGOV is the largest financial entity on the planet. When Leviathan rises from his lethargy and begins lumbering toward a goal, the earth rocks and the trees sway with every leaden footstep.

    Pimp my house, Hank! I’m countin’ on you, buddy.

  8. Melancholy Korean

    If you’re a responsible mutual fund, pension fund, or endowment manager (ahem–I’m looking at you, Bill Miller, Mr. Catch-The-Falling-Knife) how can you justify holding or buying either FNM and FRE here? Since the increase in credit lines or access to the discount window, as announced, are not in large enough sums to matter, are equity holders really counting on the Federal government to provide support for stock prices? Wasn’t Chinese government buying supposed to support the Shanghai Composite at 3000?

    (If I’ve just capitulated and called the bottom in these stocks, you’re all welcome.)

  9. Anonymous

    It seems to me that the Fed does not need congressional approval to quietly bid for tomorrows debt. If they don’t do it who will? They need to keep this party going, or give the appearance that there are still investors out there who are willing to gamble with the GSEs. And, if they do it here, where else have they done it? I’d hate to be in the same place as the poor fellow who was pictured reading the FDIC notice on the door of IndyMac… some people always knew what was going to happen and the rest are still wondering.

  10. Francois

    “By the way, the 22 January chart doesn’t convince me of anything.”

    What would it take?

    Ask yourself how many players in the markets have the kind of firepower needed to basically seal a concrete floor under the S&P when the action is very clearly downtrending FAST.

    And most importantly, cui bono? (who profits)

  11. S

    It is beyond nieve to think the Fred wasn’t calling around to all the big 401K long only folks telling them to buy the bank convert prefered deals. Who in there right mind would buy that garbage at least at those prices. Every time you heard strategic long term investor bought the deal, folks that would be your 401K money.

    Calculated risk reporting that the Fed is backing the FHLB debt as there any news to this extent.

  12. Anonymous


    I will make this REALLY SIMPLE for you.

    As a Non-American can I expect any time soon that you will pay me what you owe me.

    I’ll take that as a NO.

    Bye Bye AMERICA

  13. Anonymous

    Please share your views Francois for I feel uninformed. Who could have profited from that floor?

  14. Anonymous

    As a Non-American can I expect any time soon that you will pay me what you owe me…. NO.

    Speaking as an American, honestly, that’s probably a rational decision. It’s best for you and also best for us, forcing us towards some form of austerity and mild idiocy reduction.

    Please give us 15 years, and we’ll be happy to rejoin you and your world.

  15. ddt

    If anyone wants an illustration of what might have been going on in that chart, here’s a BBC documentary on the day that Soros and co. broke the support for the British Pound by overpowering the Bank of England’s buying power. (in the above chart, it would look like a sudden downside break through the support at 1252.5).

    The Bank of England wasn’t quite so successful.

    This clip is from an excellent BBC documentary called “The Mayfair Set” by Adam Curtis. It shows live footage of trading floors during the crash of the pound and great commentary by George Soros (“we had a very strong sense that we were on to the kill”)

    Yves, I know you’re a big Adam Curtis fan. IMO this is possibly his best work. It is focused on the financial world: securitization, Milken, market fundamentalism, etc.. If you haven’t already seen it, you must watch the whole series.

    the black monday footage starts at 7:00

  16. Jesse

    “The problem with the idea of PPT type operations is the lack of statutory authority for expenditures.”

    You may wish to look further into the Exchange Stabilization Fund – ESF.

    Yes, it has the stated charter that “The ESF can be used to purchase or sell foreign currencies, to hold U.S. foreign exchange and Special Drawing Rights (SDR) assets, and to provide financing to foreign governments.”

    However, under Robert Rubin the Treasury become more aggressive and preemptive in the definition of its prescribed activities, including the occasional dip in the equity markets, specifically but not limited to the SP futures.

  17. Yves Smith


    Thanks, I should have been more clear. There is a rich (and pretty open) history of currency and interest rate intervention. It’s the notion that there might be officially orchestrated or worse funded games-playing in equities which is troubling and more than a bit of a stretch. Since when is the level of equity markets (as opposed to rules about how they operate) a matter of public policy?

  18. Anonymous

    Paul Krugman says he is staking out a contrarian view:

    Contrary to what? Certainly not to his pals Bernanke or Paulson. Just as he did after the BSC fiasco, PK tells us we must hope that this intervention works. Since PK’s voice is about as far left as the DC and Wall Street crowds will hear, it looks like there will be no dissent from the Treasury/Fed plan.

  19. Steve

    The NYT is reporting that the Administration wants to up the UST line of credit to the two institutions to $300 billion.

    The article also contains a quote from a FRE flack that adumbrates more problems down the road: “It is important to note that our understanding with Treasury is that any agreement to purchase equity can only occur with the mutual agreement of both parties.” Great: give us a line of low-cost UST credit, but remember our executives are compensated in stock options.

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