Federal Securities Law Blog

The Federal Reserve and the U.S. Department of Treasury have recently begun new lending to encourage investors to buy securities backed by consumer and small business loans. The lending program, known as TALF for Term Asset-Backed Securities Loan Facility, could be a favorable investment opportunity for large investors at the same time that it provides up to $1 trillion in new lending to encourage the issuance of securities backed by consumer credit.

Under TALF, the Federal Reserve Bank of New York (FRBNY) lends a minimum of $10 million to each eligible borrower to buy securities backed by auto loans, credit card loans, student loans, and certain small business loans. The TALF Borrower must pledge these asset-backed securities as collateral for the non-recourse TALF loan. If the investment is unsuccessful and the TALF borrower cannot repay the loan, it must surrender the collateral, but it is generally not subject to additional recourse.

TALF Terms and Conditions:

• Eligible Borrowers: U.S. businesses and investment funds with U.S. investment managers such as hedge funds, private equity funds, and mutual funds.
• Eligible Collateral: AAA-rated securities issued mostly in 2009 backed by auto loans, student loans, credit card loans, and small business loans guaranteed by the Small Business Administration. Securities backed by commercial mortgages, certain vehicle fleets, equipment, and private-label residential mortgages may be included in the future.
• Loan Terms: Minimum $10 million loan (no maximum) with a three-year term, a fixed or floating interest rate depending on the collateral, and an administrative fee of 0.05% of the loan amount on each settlement date. The principal amount of each loan depends on the value of the pledged collateral with borrowers expected to contribute 5% to 16% of the total investment depending on the collateral.
• Restrictions: TALF loans cannot be secured by loans originated or securitized by the TALF borrower or an affiliate. Each borrower must be approved by the FBRNY in its sole discretion, and the FBRNY may inspect and audit each borrower. TALF loans are not subject to mark-to-market or re-margining requirements, and substitution of collateral is not permitted unless the collateral is found ineligible after the loan is made.

Treasury and the Fed hope that TALF, along with recently announced Public-Private Investment Program, will encourage consumer credit transactions because lenders will be able to once again pool loans and sell asset-backed securities, a market that has largely collapsed. TALF may have the added benefit of being a favorable investment opportunity for eligible borrowers. It is unclear which borrowers will take advantage of TALF, but hedge funds, private equity funds, and similar investment vehicles are likely participants.

The largest perceived advantage of TALF is the opportunity for significant returns with a limited risk to the investor. As credit protection, Treasury will use Troubled Asset Relief Program funds to buy and manage TALF loan collateral that is foreclosed upon by the FRBNY.

The Federal Reserve Bank of New York began accepting subscriptions for TALF loans on March 17, 2009, and will continue to accept subscriptions on the first Tuesday of each month until December 31, 2009 (unless the Fed extends the program). Updates to TALF are forthcoming and can be found at the TALF website, www.ny.frb.org/markets/talf.html.