During the fall of 2008, circumstances surrounding the collapse of significant financial institutions and headline events such as the Reserve Fund's "breaking the buck" prompted governments around the world to take action and ushered in the current theme of proactive sovereign intervention. As part of this initiative, various government-sponsored programs were introduced, including U.S. CP-related initiatives such as the ABCP Money Market Mutual Fund Liquidity Facility (AMLF), the Commercial Paper Funding Facility (CPFF), the Money Market Investor Funding Facility (MMIFF), and the Straight-A Funding, LLC (Straight-A) programs.
Though structurally different, the intention of the AMLF and the MMIFF is to backstop the purchase of certain short-term debt instruments, including CP, CDs and bank notes, thereby creating additional liquidity in the capital markets for them. The CPFF provides for the issuance of qualified CP to the Federal Reserve Bank of New York (FRBNY) through its primary dealers. Straight-A is a recently launched government-backed ABCP conduit established with the intention of fostering Family Federal Education Loan Program (FFELP) lending by purchasing notes backed by FFELP student loans and funding the purchase via the issuance of ABCP.
The facilities have had minimal, if any, direct impact on ABCP credit ratings. However, their existence has provided liquidity and price stability in the markets for ABCP and other short-term products and by extension has benefited the institutions that issue them. Absent these facilities, funding cost pressure and constricted liquidity conditions may have threatened the abilities of many entities to conduct "normal" short-term funding operations, which could have potentially translated into negative rating actions.
The AMLF and CPFF have proven useful during stressful periods for CP market participants, especially following the demise of Lehman Brothers and over the turn of the year. Combined, they currently represent approximately 15% of U.S. CP outstandings, down from a peak of approximately 22%. The Straight-A program began funding on May 11, and time will tell of its effectiveness as a funding alternative in the student loan market.
ABCP Money Market Mutual Fund Liquidity Facility:
The Federal Reserve last September established the AMLF in an effort to boost investor confidence in money market funds by providing liquidity to help money market mutual funds meet the demand for investor redemptions. The AMLF is authorized under Section 13(3) of the Federal Reserve Act, which permits the Federal Reserve Board, under extenuating circumstances, to authorize reserve banks to extend credit to individuals, partnerships, and corporations that are otherwise unable to obtain sufficient credit accommodations.
This program authorizes the Federal Reserve Bank of Boston to extend non-recourse loans to eligible borrowers, which include U.S. depository institutions, U.S. bank holding companies, or U.S. branches and agencies of foreign banks. The goal is to fund the purchase of eligible ABCP from money market mutual funds. ABCP will be purchased at the money fund's acquisition cost of the ABCP, adjusted for the amortization of premium or the accretion of discount. The loans will be made at the prime credit rate in effect on the date the loan is made and the rate will be fixed for the loan's term. Subsequent to borrowing, the borrower is not at risk of loss on the ABCP unless the ABCP is determined to be ineligible. For non-depository institutions, advances may remain outstanding for the remaining term of the ABCP being financed, which will vary from overnight to 270 days. For depository institutions, advances may not exceed a term of 120 days and the maturity of the ABCP may not exceed 120 days.
Commercial Paper Funding Facility:
Following on the heels of the creation of the AMLF in early October, the Federal Reserve announced its intentions to establish the CPFF. The CPFF is authorized under Section 13(3) of the Federal Reserve Act. The objective of this facility is to provide liquidity to U.S. CP issuers that may be experiencing difficulty selling paper into the capital markets. The CPFF essentially provides a liquidity backstop to CP issuers through a special purpose vehicle (SPV) that will purchase three-month unsecured and ABCP from eligible issuers through the Federal Reserve's primary dealers. The FRBNY commits to lend to the SPV under the CPFF at the target Federal Funds rate, and its loans will be secured by the SPV's assets.
Upon registration, issuers pay an upfront 10 basis point facility fee based on the maximum amount that the SPV may own at any time. The maximum amount of an issuer's CP that the SPV may own, at any time, is the greatest amount of U.S. dollar-denominated CP the issuer had outstanding on any day between Jan. 1, 2008 and Aug. 31, 2008. The purchased CP will be discounted based on a rate equal to a spread over the three-month overnight index swap (OIS) rate on the purchase date.
Money Market Investor Fnding Facility:
Early October also saw the Federal Reserve Board establish the MMIFF, which was launched to provide liquidity to U.S. money market investors by facilitating the sale of money market instruments in the secondary market. In November 2008, Fitch assigned an 'F1' rating to each of five ABCP programs that were created in conjunction with the MMIFF. The programs, Hadrian, Trajan, Aurelius, Antoninus, and Nerva, named after "the five good Roman emperors," are structurally identical and differ only with respect to each one's unique list of 10 approved obligors. Each obligor has a short-term rating of at least 'F1' or the equivalent.
The proceeds of ABCP issuance is used along with senior secured loans from the FRBNY to fund the purchase of highly rated short-term debt instruments from money market mutual funds. Each asset, which may be in the form of commercial paper, certificates of deposit, or bank notes, must be issued by a permitted obligor and purchased from an eligible seller. Upon acquisition, an asset will have a remaining maturity of 90 days or less. Each asset will be 90% funded by overnight loans from FRBNY and 10% by ABCP issuance. Upon an asset payment default, ABCP noteholders will not be repaid until the loans from FRBNY have been paid in full. The facility's expiration date was recently extended to Oct. 30. To date, this facility remains unutilized; however its presence alone has helped provide a sense of psychological comfort to market participants.
FFELP Student Loan-Related ABCP Program:
Late in the fall of 2008, the U.S. Department of Education (DOE) announced its intentions to establish an ABCP program pursuant to the Ensuring Continued Access to Student Loans Act (ECASLA). On Oct. 7, 2008, the Bush Administration extended ECASLA for one year. Among other provisions, the act grants lenders the option to put student loans to the DOE under certain conditions.
The ABCP conduit Straight-A will be one of a number of initiatives that have been implemented under the act by the DOE and Treasury Department together with the Office of Management and Budget. The government's stated intention is to continue to provide families with access to federally guaranteed student loans. As conditions to participating in the ABCP program, student loan lenders generally agree to originate and disburse or acquire government-guaranteed student loans and conduct activities constituting a continued participation in FFELP within a 24-month period after selling or pledging loans to the program.
Noteholders will benefit from full credit and liquidity support provided by the Federal Financing Bank (FFB). The FFB is a U.S. government corporation whose risk is considered commensurate with that of the U.S. government. The support mechanisms will be sized to cover the face amount of SLST notes being funded by the borrowing plus any interest accrued and to accrue to the legal final maturity of the notes. Furthermore, Straight-A has entered into a put agreement with the DOE whereby following the occurrence of certain events, among them being a failure by the liquidity provider to honor a liquidity funding, Straight-A will put student loans to the DOE and the DOE is obligated to purchase them 45 days after receipt of notice of the put.
Michael Dean is a managing director and head of Fitch's North American ABCP group. Darryl Osojnak is a managing director while Kevin Corrigan is a director in the group.
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