Fed Makes Huge Profit

In a year in which many financial institutions gasped for air, the Federal Reserve transferred $47.3 billion to the Treasury – its “profit” in a sense.  The Fed’s comprehensive income, the difference between its costs and income, was  $53.4 billion. In its financial statement, the agency said “Total Reserve Bank assets as of December 31, 2009 were $2.235 trillion.”

As part of the disclosure the Fed gave detailed financial results of its 12 regional banks. The Fed’s numbers were audited by Deloitte & Touche.

The Fed’s total interest income was up from $43 billion to $63 billion, primarily because of “federal agency and government-sponsored enterprise mortgage-backed securities,” which were part of its activity to stabilize the housing market.

In the section of the report describing the Fed’s primary role in the market last year, its said:

The Single-Tranche Open Market Operation Program allows primary dealers to initiate a series of 28-day term repurchase transactions while pledging Treasury securities, Federal agency and GSE debt securities,and Federal agency and GSE MBS as collateral.

The Federal Agency and GSE Debt Securities and MBS Purchase Program provides support to the mortgage and housing markets and fosters improved conditions in financial markets. Under this program, the FRBNY purchases housing-related GSE debt securities and Federal agency and GSE MBS. Purchases of housing related GSE debt securities began in November 2008 and purchases of Federal agency and GSE MBS began in January 2009. The FRBNY is authorized to purchase up to $200 billion in fixed rate, non-callable GSE debt securities and up to $1.25 trillion in fixed rate Federal agency and GSE MBS. The activities of both of thes programs are allocated to the other Reserve Banks.

The statement was a confirmation of the central bank’s safety net under both the banking and housing markets. It could be argued that the results of bank support were more successful than its housing efforts. Most large banks have reported strong earnings in the last quarter and improved balance sheets. Conversely, housing prices have continued to drop and mortgage defaults have continued to rise. The Fed’s effort to keep mortgage rates low had little if any impact on the market.

The Fed also described its role in sales of assets from Bear Stearns to JPMorgan Chase and its support of huge insurance firm AIG:

Bear Stearns Companies, Inc.

In connection with and to facilitate the merger of The Bear Stearns Companies, Inc. (“Bear Stearns”) and JPMorgan Chase & Co. (“JPMC”), the FRBNY extended credit to Maiden Lane LLC (“ML”) in June 2008. ML is a Delaware limited liability company formed by the FRBNY to acquire certain assets of Bear Stearns and to manage those assets over time, in order to maximize the potential for the repayment of the credit extended to ML and to minimize disruption to the financial markets. The assets acquired by ML were valued at $29.9 billion as of March 14, 2008, the date that the FRBNY committed to the transaction, and largely consisted of Federal agency and GSE MBS, non-agency residential mortgage-backed securities (“non-agency RMBS”), commercial and residential mortgage loans, and derivatives. The FRBNY extended a senior loan of approximately $28.8 billion and JPMC extended a subordinated loan of $1.15 billion to finance the acquisition of the assets through a pledge to State Street as the collateral agent. The interest rate on the senior loan is the primary credit rate in effect from time to time. JPMC bears the first $1.15 billion of any losses associated with the portfolio through its subordinated loan. Residual gains, if any, will be allocated to the FRBNY. The interest rate on the JPMC subordinated loan is the primary credit rate plus 450 basis points. The loans are collateralized by all of the assets of ML. The FRBNY is the sole and managing member and the controlling party of ML and will remain as such as long as the FRBNY retains an economic interest in ML.

American International Group, Inc.

In September 2008, the Board of Governors authorized the FRBNY to lend to American International Group, Inc., (“AIG”). Initially, the FRBNY provided AIG with a line of credit collateralized by the pledge of a substantial portion of the assets of AIG. Under the provisions of the original agreement, the FRBNY was authorized to lend up to $85 billion to AIG for two years at the three-month LIBOR, with a floor of 350 basis points, plus 850 basis points. In addition, the FRBNY assessed AIG a one-time commitment fee of 200 basis points on the full amount of the commitment and a fee of 850 basis points per annum on the undrawn credit line. A condition of the credit agreement was that AIG would issue to a trust, for the sole benefit of the fiscal treasury, preferred shares convertible to approximately 78 percent of the issued and outstanding shares of the common stock of AIG. The AIG Credit Facility Trust (“Trust”) was formed January 16, 2009 and the preferred shares were issued to the Trust on March 4, 2009. The Trust has three independent trustees who control the Trust’s voting and consent rights. The FRBNY cannot exercise voting or consent rights. On October 8, 2008, the FRBNY began providing cash collateral to certain AIG insurance subsidiaries in connection with AIG’s domestic securities lending program.

In other words, the Fed can fairly say that it was the essential player in saving the economy from worse damage during the credit crisis.

Among the other notes in the report were the Fed’s actions to support Citigroup (NYSE: C), Bank of America (NYSE: BAC) and several other large financial institutions.

Fed chief Ben Bernanke, still under pressure from some members of Congress to open its books more completely to the public, appears to have responded to the criticism by saying “The information disclosed in the 2009 financial statements reaffirms our commitment to transparency and to the responsible stewardship of public resources.”

Douglas A. McIntyre