On October 21, 2008, the Board of Governors of the Federal Reserve System (the “Federal Reserve”), acting pursuant to Section 13(3) of the Federal Reserve Act1, announced the creation of a Money Market Investor Funding Facility (the “Facility”) designed to provide liquidity to U.S. money market investors.
The Facility will be implemented through the Federal Reserve Bank of New York (“FRBNY”). The purpose of the Facility is to provide money market mutual funds and other money market investors confidence that they can extend the terms of their investments and still maintain appropriate liquidity positions. The Facility is in addition to the Federal Reserve’s previously announced Commercial Paper Funding Facility (“CPFF”) and the Asset Backed Commercial Paper Money Market Mutual Fund Liquidity Facility (“AMLF”).
Under the terms of the Facility, a series of special purpose vehicles2 will be established (the “Purchasing Entities”) to purchase up to $600 billion of eligible money market instruments from eligible investors3 with funding provided primarily by the Federal Reserve through the Facility. Eligible investments are U.S. dollar denominated certificates of deposit, bank notes and commercial paper with a remaining maturity of 90 days or less. Each Purchasing Entity may only purchase debt instruments issued by ten North American or European financial institutions to be designated in the Purchasing Entity’s organizational documents.4 Each eligible financial institution must have a short-term debt rating of at least A-1/P-1 from two or more major nationally recognized statistical rating agencies. Debt instruments of any single eligible financial institution may not constitute more than 15% of the Purchasing Entity’s assets at the time of purchase.
Each Purchasing Entity will finance its purchases through the issuance to the seller of subordinated, asset-backed commercial paper (“ABCP”) and senior secured borrowings under the Facility. Each seller of eligible assets to a Purchasing Entity will receive ABCP equal to 10% of the purchase price of the assets. The ABCP will have a maturity equal to the maturity of the asset purchased and will be rated at least A-1/P-1/F-1. The ABCP will bear interest at a rate at least 25 basis points below the interest rate on the assets sold. FRBNY will commit to lend 90% of the purchase price until maturity. Loans from the FRBNY will be on an overnight basis at the primary credit rate (currently, 1.75%), will be senior to the ABCP, will be full-recourse to the Purchasing Entity and will be secured by all assets of the Purchasing Entity. In order to reduce interest rate risk to the Purchasing Entities, if the primary credit rate rises above 2.25%, FRBNY’s right to receive interest above 2.25% will be subordinated to the ABCP.
If the debt instruments of a financial institution held by a Purchasing Entity are no longer eligible assets as a result of a ratings downgrade, the Purchasing Entity must cease all asset purchases until all of the assets issued by the affected institution have matured. If there is a default on any asset held by a Purchasing Entity, the Purchasing Entity must cease all purchases and repayments of ABCP. Proceeds of assets held will be used first to repay FRBNY and then to the payment of principal and interest on the ABCP.
All purchases under the Facility will end on April 30, 2009, subject to extension by the Federal Reserve. Thereafter, proceeds from assets held by the Purchasing Entities will be used first to repay FRBNY and then to repay ABCP as it comes due. A “small” portion of any spread will be allocated proportionally among the holders of the ABCP; FRBNY will receive the remainder of any remaining spread. JP Morgan Chase & Co. will be the sponsor and the manager of the Purchasing Entities.
The Facility is intended to complement, and not replace, the CPFF and the AMLF. According to the Federal Reserve, the CPFF finances purchases by a special purpose vehicle of threemonth commercial paper from issuers at rates set above “normal” interest rates and is intended to assure issuers of commercial paper that they can roll over their commercial paper at rates no higher than those set under the CPFF. The AMLF finances nonrecourse purchases of ABCP by banking organizations with loans from the Federal Reserve Bank of Boston at the primary credit rate. By contrast, the Facility is intended to reduce short-term debt rates by relieving balance sheet pressures making money market investors hesitant to purchase commercial paper. As described above, loans under the Facility are collateralized with different instruments and are full recourse to the Purchasing Entities.
As of October 24, 2008, no procedures had been established for the sale of eligible assets to the Purchasing Entities. To date, no purchases have been made under the Facility. The Federal Reserve will announce when the commencement date of the Facility will occur.