To TALF, or not to TALF

The long-awaited Federal Reserve program aimed at thawing the frozen credit markets got underway this week. Will it work?

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By David Ellis, staff writer
Interest in the Federal Reserve's so-called "TALF" program on the part of both investors and lenders will determine its success, according to experts.

NEW YORK ( -- The government's efforts to tame the credit crisis faces one of its biggest tests yet as the Federal Reserve finally launches a $1 trillion program aimed at reviving lending for both consumers and business.

Last November, the Fed announced the creation of the Term Asset-Backed Securities Loan Facility, or TALF. Under the plan, the Fed will effectively serve as a matchmaker, partnering buyers and sellers of newly issued, top-rated securities backed by a variety of loans including student, small business, auto and credit card loans.

The TALF program was originally supposed to start in February, but an expansion of the program and several adjustments to it have pushed back its launch until now.

Now there are questions about whether the program will bring about the results regulators are hoping for.

"That is the worry - is it going to be effective?" said Ken Alverson, managing director at the New York City-based financial services consultancy Novantas.

As global financial markets remain under pressure, so has investor demand for securities backed by a variety of consumer and business loans. That makes it incredibly difficult for lenders that rely on securitization to make new loans.

Last year, the volume of loan securitization worldwide plummeted by $2.4 trillion from where it stood in 2006, according to the American Securitization Forum. The industry group estimates nearly half of all consumer loans depend on securitization.

The Fed is hoping that TALF will push banks and other finance companies to keep making new loans. To help coax reluctant investors to buy the securities, the central bank is offering buyers cheap financing and only requiring them to pay a small portion of the purchase price up front.

Many believe that the participation of private investors, such as hedge funds, private equity firms and mutual funds, could very well determine the success or failure of the program.

There has been widespread speculation that investor interest may be relatively robust, but there are stumbling blocks.

One hitch, experts said, is that the maturity dates of many of these securities don't match up with TALF loans, which last three years. An investor looking to snap up an asset-backed security that matures a year later, for example, could run into refinancing difficulties, be forced to sell the investment or have to give it back to the Fed.

Regulators may prove willing to make such changes, said Julie Spellman Sweet, a corporate partner at law firm Cravath, Swaine and Moore, much in the same way they have tinkered with the program after it was unveiled last fall.

Since its inception, the Fed has increased the size of the program from $200 billion to $1 trillion, and widened the scope of TALF to include securities backed by commercial real estate mortgages. It is believed that the program could also, at some point, include corporate debt and mortgages not guaranteed by Fannie Mae and Freddie Mac.

In addition, the Obama administration may also be considering expanding the TALF program to help banks remove toxic assets from their balance sheets, according to a report from Bloomberg on Wednesday.

Requests for comment from both the Treasury and the Fed about this report were not immediately returned. But the Fed's policymaking committee said in a statement Wednesday that it "anticipates that the range of eligible collateral [for TALF] is likely to be expanded to include other financial assets."

Nonetheless, Tanya Beder, chairman of advisory firm SBCC Group, which focuses on the financial services industry, said there is still a lack of certainty about the value of the assets backing the securities that buyers are expected to purchase.

"There is a terrific degree of uncertainty surrounding cash flows and what instruments are worth right now," said Beder.

Top officials, including Neil Barofsky, special inspector general of the Treasury's Troubled Asset Relief Program, or TARP, have also warned in recent months that there is a risk that Fed could accept securities that have been overvalued.

Bankers' beef

Even a mild response from investors could go a long way to helping financial firms that rely heavily on asset-backed securities as a source of funding for new loans. But some experts wonder just how enthusiastically some lenders will reenter the securitization market.

Traditional commercial banks for example, have been raising credit requirements lately to steel themselves against further loan losses. At the same time, the appetite for new consumer loans has waned as many Americans try to rein in their spending during the recession.

But banks may also have more attractive alternatives when it comes to making new loans, according to experts. That could also impair the effectiveness of the TALF program.

Tanya Azarchs, credit analyst and managing director for Standard & Poor's, wrote in a note to clients earlier this month that traditional deposits or even the billions of dollars in capital that the industry has received through TARP could be a more inexpensive option for some banks.

At the same time, some lenders may be reluctant to accept more government funding. Several banks that received TARP money have complained loudly about the growing number of rules that lawmakers have imposed on participants in the program.

The Fed overturned original TALF rules that would have required lenders to abide by the same executive compensation restrictions that were folded into the TARP program. But with the Treasury pitching in to help fund the program, bankers worry that the government could impose demands as it sees fit.

"Potential participants have seen that the rules have changed [with TARP]," said Alan Avery, a partner in the financial services group at the law firm Arnold & Porter. "There is some concern that it may happen in TALF as well." To top of page

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