Federal Reserve Board Unveils Commercial Paper Funding Facility
The Federal Reserve Board released additional details this week regarding its recently announced Commercial Paper Funding Facility (“CPFF”). Designed to increase liquidity within the commercial paper market, the CPFF will permit the federal government to purchase eligible three-month unsecured and asset-backed commercial paper from U.S. issuers utilizing funds provided by the Federal Reserve Bank of New York. The new information released by the Federal Reserve Board includes important details regarding eligibility, pricing, and implementation of the massive facility.
Originally unveiled by the Federal Reserve Board on October 7, 2008, the CPFF is intended to address reductions in investor appetite for longer-term commercial paper that have driven up interest rates to extremely high levels. “By eliminating much of the risk that eligible issuers will not be able to repay investors by rolling over their maturing commercial paper obligations, this facility should encourage investors to once again engage in term lending in the commercial paper market,” noted the initial Federal Reserve Board press release. “Added investor demand should lower commercial paper rates from their current elevated levels and foster issuance of longer-term commercial paper.”
The Federal Reserve Board authorized the CPFF on the basis of Section 13(3) of the Federal Reserve Act, which allows the Board to permit Reserve Banks to offer credit to individuals, partnerships, and corporations in “unusual and exigent circumstances.” Under the terms of the facility, a special purpose vehicle (“SPV”) will be employed to purchase as much as $1.8 trillion in commercial paper that satisfies ratings and other eligibility criteria. The funds for these purchases, including a special $50 billion deposit from the U.S. Treasury, will come from the Federal Reserve Bank of New York and will be lent to the SPV on a recourse basis. The SPV will use amounts generated by the maturing commercial paper to repay the New York Fed.
The CPFF will begin purchasing commercial paper on October 27, 2008 and, unless the program is extended by the Federal Reserve Board, will cease purchasing on April 30, 2009. The SPV will remain funded until the commercial paper held as of April 30, 2009 matures.
The Federal Reserve Board has indicated that Pacific Investment Management Company LLC, or PIMCO, will serve as asset manager for the CPFF, while State Street Bank and Trust Co. wil serve as custodian and administrator for the program.
A Closer Look
In order to be eligible for purchase under the CPFF, commercial paper will need to be three-month, U.S. dollar-denominated commercial paper that is rated at least A-1/P-1/F1 by a nationally recognized statistical rating organization and issued by an “eligible issuer.” Eligible issuers consist of U.S. issuers, including U.S. issuers with a foreign parent, that have registered with the CPFF and paid a 10-basis point facility fee1. This facility fee is calculated based upon the maximum amount of commercial paper that an eligible issuer is entitled to sell to the facility—an amount equal to the largest amount of U.S. dollar-denominated commercial paper that such issuer had outstanding on any day between January 1 and August 31, 2008. Upon registration, an eligible issuer will be required to pay its facility fee based upon its entire maximum allowable amount whether or not it expects to sell this entire amount of commercial paper to the SPV. In addition, the SPV is precluded from purchasing additional commercial paper from any eligible issuer that has total commercial paper outstanding in excess of or equal to its maximum amount under the CPFF.
Pricing of commercial paper purchased under the CPFF will be based on the then-current three-month overnight index swap (“OIS”) plus a fixed spread. The spread for asset-backed commercial paper will be 300 basis points per annum. The spread for unsecured commercial paper will be 100 basis points per annum. In addition, a 100- basis point unsecured credit surcharge must be paid by issuers with respect to unsecured commercial paper upon the trade execution date. The New York Fed has the ability to waive the unsecured credit surcharge for issuers who are able to provide an acceptable collateral arrangement or an indorsement or guarantee of their obligations. Daily lending rates under the CPFF will be posted on the New York Fed website each day at 8:00 AM eastern time and on the BLOOMBERG PROFESSIONAL service on the CPFF page.
A number of other restrictions will apply to sales of commercial paper under the CPFF. For example, eligible issuers may only sell commercial paper to the SPV through a primary dealer of the New York Fed. Primary dealers will be required to notify the asset manager of the amount of commercial paper that an eligible issuer is interested in selling to the SPV no later than 10:30 AM eastern time on the day of the proposed transaction. Investors may not sell outstanding commercial paper to the SPV. However, eligible issuers may repurchase outstanding commercial paper and subsequently sell this commercial paper to the SPV through a primary dealer. The facility is not available for the purchase of commercial paper with extendable maturities.
Additional details about the CPFF are certain to come to light in the coming days and weeks as the Federal Reserve Board and the New York Fed roll out the facility. Dechert attorneys will continue to monitor these developments closely and will be available to assist clients interested in the opportunities presented by the CPFF and the commercial paper market more generally.
1) Issuers must register no later than Thursday, October 23, 2008 if they wish to access the CPFF on its first day of operation, October 27, 2008. Additional details regarding registration, including registration materials and wire instructions, will be available on Monday October 20, 2008 at http://www.newyorkfed.org/markets/cpff.html.