Fed announces $800bn in new programs to support the mortgage and consumer ABS markets

The Fed made two announcements this morning regarding new measures that will together provide an additional $800bn to support mortgage and consumer asset-backed securities (ABS) markets. The Fed is likely to finance the new programs by creating reserves and expanding its balance sheet, which has more than doubled in the past two months.

The Fed said it is initiating a program to purchase direct obligations of Fannie Mae, Freddie Mac, and the Federal Home Loan Banks, as well as mortgage backed securities (MBS) issued by these agencies in order to "support housing markets and foster improved conditions in financial markets more generally." Purchases of up to $100bn in GSE debt will be conducted through auctions with primary dealers starting next week, while purchases of up to $500bn in MBS will be conducted by selected managers, and their goal is to begin these purchases before year-end.

The purchases of both types of securities will take place over several quarters and further details of the program will be worked out "after consultation with market participants." The size of this program is significant, and we expect it to have a meaningful impact in lowering mortgage rates.

The Fed also announced the creation of the Term Asset-Backed Securities Loan Facility (TALF), which will purchase up to $200bn in AAA-rated ABS backed by "newly and recently originated" student loans, auto loans, credit card loans, and loans guaranteed by the Small Business Administration. The TALF will make 1yr non-recourse loans that are fully secured by eligible ABS on a monthly basis.

The Treasury will finance the first $20bn in asset purchases from TARP funds with the Fed providing the remainder of the financing. Fed officials indicated that they hope to have the program operational by February 2009, and it will continue making new loans through December 31, 2009. Originators of the ABS must comply with the executive compensation requirements under the Emergency Economic Stabilization act of 2008, and "any U.S. persons that own eligible collateral may participate in the TALF."

The Fed's statement indicated eligible underlying collateral "may be expanded later to include commercial mortgage-backed securities, non-agency residential mortgage-backed securities, or other asset classes," and in a press conference, Treasury Secretary Paulson stated that "we're dealing with a historic situation" and $200bn is a "starting point" for this program. Thus, policy makers continue to be flexible and aggressive in addressing dysfunctions in credit markets.  Julia Coronado wrote in a Barclays Global report.