PrefBlog

Well, that’s the end of another week-and-a-half! I said the same thing August 10 … I’m gonna start putting in for overtime.

The big news of the day was the Fed cut the discount rate. As the WSJ admirably explains the discount rate is the rate at which financial institutions can borrow directly from the Fed:

Banks were reluctant to access the window because it was associated with a stigma usually reserved for distressed banks. A few years ago the Fed overhauled the discount window to try and alleviate that stigma; the rate was then set one percentage point above the funds rate and subject to far fewer conditions. In spite of that, discount window borrowing has remained paltry.

Discount lending averaged just $11 million in the week ended Aug. 15. Although that was up from $1 million in the prior week it was puny compared to the billions of dollars the Fed has regularly injected into the financial system through open market operations.

There has been some jeering that this is a mere gesture; but some cheering for such a public (and cheap!) jawboning that certainly had an effect on the markets today. The Fed even actively encouraged eligible institutions to take advantage of the cut.

The discount cut sent a message that the Fed will consider Fed Funds Target cuts, which was received loud and clear, although the Fed Funds Futures market seemed a little disappointed that the gesture was only symbolic (what a bunch of cowboys those guys are!). While data for today is not yet posted, the Fed maintained a rate of about 5% in the actual Fed Funds market yesterday, and the low yesterday was 2%, much more reasonable than the recent 0% nonsense. Goldman Sachs changed its prediction again:

Goldman Sachs Group Inc. said the Federal Reserve will cut the overnight target interest rate to 4.5 percent from 5.25 percent this year
…
Until June, Goldman had expected the Fed to cut rates 75 basis points this year. They changed the forecast in June saying the Fed would hold rates at 5.25 percent through year-end

The analyst’s track record was not disclosed, possibly due to confusion regarding just exactly which track record.

At any rate, this signal was considered to be a sign that the world was not about to come to an end and both American and Canadian equities soared, led by financials.

Not surprisingly, government bonds had a super day, with Treasury two-years dropping 6bp in yield and ten-years 2bp, to bring the term premium to 50bp. Canada followed:

The two-year bond added 12 Canadian cents to C$99.25 to yield 4.188 percent, while the 10-year bond gained 23 Canadian cents to C$96.76 to yield 4.411 percent.

The yield spread between the two-year and 10-year bond moved to 22.3 basis points from 17.2 at the previous close.

The 30-year bond fell 28 Canadian cents to C$109.05 to yield 4.448 percent.

Readers might not fully empathize with my joy at seeing a real-live actual term spread again, after all this time … but believe me, it’s there.

A major – and worrisome – fly in the ointment is that the market for asset-backed paper has dried up and now:

The gap between similarly rated asset-backed and direct- issued paper is 79 basis points, the most since Bloomberg began keeping the indexes in 1999.

Brad Setser explains some of characteristics of ABCP and its relevance to the current kerfuffle. Connoisseurs of the preferred share market will recognize some degree of similarity between the two basic types of commercial paper and the preferred share types of “Operating Retractible” and “Split Share”.

Retail ABCP aversion is very pronounced to the point where not having any is a competitive advantage for Canadian money-market funds.

Sadly, I must leave devotees of the preferred share market in suspense. I have a dinner engagement and prices were not available from the source until about 7:30pm. I’ll update tomorrow … but fear not! Today, while volatile, was actually a pretty good day.

Update, 2007-08-17

There were fourteen other $25-equivalent index-included issues trading over 10,000 shares today.

This entry was posted on Friday, August 17th, 2007 at 8:18 pm and is filed under Market Action. You can follow any responses to this entry through the RSS 2.0 feed. You can leave a response, or trackback from your own site.