Fed Reduces Counterparty Asset Requirement for Funds

The Federal Reserve reduced by half the amount of assets money funds are required to hold in order to become counterparties in transactions when the central bank begins to drain the record amount of cash added to the financial system.

Funds must have net assets of no less than $10 billion for six consecutive months prior to the submission of an application, the New York Fed said in a statement today. The threshold was $20 billion when the central bank first announced the criteria in March. Jeffrey Smith, a New York Fed spokesman, wasn’t immediately available to comment.

The Fed is expanding its counterparties as the 18 securities firms that act as primary dealers work to shore up their own balance sheets after the worst financial crisis in decades. The Fed is putting the infrastructure in place to remove or neutralize the more than $1 trillion in extra cash from the central bank’s balance sheet even as policy makers contemplate buying additional securities to ensure that the economic recovery takes hold.

“Fairness and broadness were probably the two reasons why the Fed lowered the asset requirements,” said Ira Jersey, an interest-rate strategist in New York at primary dealer Credit Suisse Group AG. “The Fed wants to keep their options open and be as broad as possible in the eventuality -- which is a long way off -- that they need to use the reverse repos. They also don’t want it perceived as the big money funds are getting special treatment.”

Reverse Repos

The Fed expanded its list of counterparties used for reverse repurchase agreements last month to add money market funds managed by 14 firms, including Fidelity Investments and Goldman Sachs Group Inc. The new firms aren’t eligible to participate in other transactions.

In a reverse repo, the Fed sells securities for a set period, temporarily draining cash from the banking system. At maturity, the securities are returned to the Fed and the cash to the primary dealers or other counterparties.

In a tri-party arrangement, a third party functions as the agent for the transaction and holds the security as collateral. JPMorgan Chase & Co. and Bank of New York Mellon Corp. are the only banks that serve in a trade-clearing capacity in the tri- party repo market.

To contact the reporter on this story: Liz Capo McCormick in New York at emccormick7@bloomberg.net

To contact the editor responsible for this story: Dave Liedtka at liedtka@bloomberg.net

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