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Gimme Credit

Posted by Larry Doyle on March 20, 2009 8:56 AM |

In the midst of all the wrangling in Washington, Wall Street, and literally all around the world, the biggest concern for everyday Americans is the accessibility of credit. I am sure everybody reading this post has either had issues gaining credit or knows of people who have had issues gaining credit. The knee jerk reaction for this lack of credit is to lash out at those big, bad banks. Well, those big, bad banks along with their smaller counterparts only provide approximately 50% of the consumer credit in our economy.

Where did the other 50% of credit emanate and where did it go? Welcome to the world of asset-based financing and in turn Asset-Backed Securities. I highlighted back on November 12th that the Wall Street Model is Broken…and Won’t Soon Be Fixed. Well, the breakdown and discontinuation of the ABS market is truly the equivalent of the total collapse of one of your lungs. Try to go about your daily business and all of your activities with access to only half the oxygen supply as normal. Might get a little winded? Might struggle to perform? Might tire rather quickly? Might be less efficient and productive? Well, folks, given the shutdown of the ABS market that is exactly what our economy has been experiencing.

Why did the ABS market shut down? In so many words, the blood that was flowing through the arteries was polluted with toxins. What does that mean? The blood, that being the loans underwritten by banks and lenders which would be securitized by Wall Street, lacked the necessary underwriting discipline. In turn, investors totally walked away from the market. As a result, the vitality generated by the return of the blood to the heart did not occur. What does that mean? Once loans are sold through the securitization process, the capital proceeds (blood) generated by the sale are used to make new loans.

How do we restart the engines of this model so credit can flow once again? How do we incentivize investors to reenter the market? Welcome to the TALF (Term Asset Backed Lending Facility). Through this facility, the government will provide significant capital to investors and share significant risk with investors to purchase securities backed by consumer loans. Bloomberg reports Fed Gets $4.7 Billion in Loan Requests for Debut of TALF Plan.

While initial details in launching this plan took a while to untangle, enthusiasm by investors is growing. That is a good thing. Will we get the full use of our other lung back soon so we can get back to business as usual? Well, don’t hold your breath, no pun intended. The Bloomberg piece indicates that investors are receiving a rate of approximately 3.5% above Libor (London interbank overnight rate) to purchase some of these securities. For what it is worth, when the blood (loans) was clean and flowed smoothly, investors used to receive a return of approximately .35% above Libor. What does this mean? If the TALF is successful in restarting the ABS market, increased credit may begin to flow slowly through to consumers again, BUT do not expect the price of that money to come down anytime soon.


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