TALF Comes Back Tomorrow

The Term Asset-Backed Securities Loan Facility (TALF) will be opened for a second time tomorrow, and the results will be closely watched for signs of thawing in the securitization market, which was revived following the Fed's March 19 operation. In that operation, $4.7 billion was disbursed from the TALF, $1.902 billion for the purchase of securities backed by automobile loans and $2.804 billion for the purchase of securities backed by credit card loans. These amounts look small when considering that nearly $2 trillion of asset-backed securities were issued at the peak in 2005 and 2006 but, nonetheless, are larger than all of the issuance seen year-to-date up until the first TALF operation.

The TALF will help form a trough for key economic data, probably by the end of the current quarter or early in the third quarter, leading investors to look over the valley and take more risk. This process, which will be long-winded, is already under way.

It is easy to understand how the TALF could turn the tide in the financial and economic crisis. Picture this: As a result of the TALF, car sales stabilize. In turn, the factory-laden economic calendar begins to cast off a new message and a plethora of data (e.g., durable goods orders, factory orders, industrial production, the Philadelphia Fed survey, the Chicago index, the New York Empire survey, the ISM index, retail sales, etc.) show signs of reaching a trough. Indications of a bottom then begin to dominate the news flow, affecting sentiment. The process eventually feeds on itself. Confidence in this outcome increases when one considers the massive fiscal stimulus program that will begin hitting the tape in the second quarter.

Key, then, will be to assess the degree to which the TALF is utilized. The more it is, the more it would make sense to move one layer out the risk spectrum. I have for a few months focused on the likelihood of outperformance in agency and agency mortgage-backed securities (MBS) as well as corporate bonds in response to the Fed's Nov. 25 announcement of its plan to purchase up to $100 billion agencies and $500 billion agency-MBS, but any meaningful expansion of the TALF would justify consideration of corporate equities as well as forays into emerging markets, chiefly the mainstays of those markets, Brazil and China in particular.

The TALF can't succeed without the involvement of the private sector and in particular Wall Street. The poisonous atmosphere surrounding compensation for recipients of taxpayer dollars could make investors shy about participating in the TALF and in the Public-Private Investment Program (PPIP), which has the added obstacle of trying to unload toxic assets, not the AAA-rated assets purchased via the TALF. Explicit language is needed to assure investors that there will be no ex post facto changes to disclosure, compensation and other rules. Luckily, the Federal Reserve is an independent body and will be able to tweak the rules of the TALF and perhaps the PPIP to make them more appealing to investors. Still, the credit system can't unclog if intense public backlash forces investors to look over their shoulders.