I wrote this up originally (thanks Yogi) over on Gio’s blog in explanation of the information contained in the chart that you can find here:

http://www.gmtfo.com/RepoReader/OMOps.aspx

You really have to check it every day for awhile to get a feel for what the Fed is doing.   It basically presents the Fed’s Open Market Operations (OMO) in an easy to view format.

Every day banks and other gay clowns on Wall Street who need funds come to the Fed for a fix.  Actually these transactions are done under cover of darkness and are also referred to as overnight repos.  These are essentially short term loans.  Sometimes the institutions really need funds badly, sometimes they are just renewing the loan, sometimes the Fed says no; you can’t really tell which all of the time.  Sometimes the Fed is the one going to the market in order to influence their target rate (often the case), or sometimes they pump money in on days that the treasury is issuing new bills so that there is cash to absorb the hit to the market.  Sometimes the Fed just wants to help out stocks, but this happens a whole lot less often than most conspiracy theories would have us believe.

Insert the word “paper” after the word “total” in the table columns and that might help you get a better idea of what is going on. “Maturing” simply means the loan is due.  The second half of the table details exactly what paper the Fed is holding.  When I first started using this table, there was no column for Agency (the GSE’s), MBS (mortgage backed securities), TIO or TAF (these are currently irrelevant so we will ignore them for now).

Used to be, back in the good old days of yestermonth, that a bank had to have t-bills and t-bonds if it wanted a cash loan. Now they can present FNM and FRE debt as well as “highly rated” MBS. Here is the catch: the Fed doesn’t lend cash out against these.  It lends treasuries, which the financial firms either keep in order to shore up their balance sheets, or sell in order to raise cash (which has been the case often as this crisis has escalated).  In essence, a firm with AAA officially rated MBS bullshit that is actually BB- or worse, that the market is scared of, can go to the Fed and exchange for a liquid treasury.  Keep in mind that these are loans that must be paid back to the Fed at some point.  Hard to do if your firm’s balance sheet is still deteriorating, or the MBS you gave the Fed is downgraded and the Fed calls your loan.

It’s no coincidence that the market usually, but not always, goes up big on days when the Fed pumps in a lot of money, and vice versa.  Just keep watching every day and you will see this relationship.

But a funny thing happened on Monday the 15th. The Fed pumped in a huge amount, and since the treasury started pay-downs from quarterly tax receipts this week (so no new notes to soak up the extra cash from the Fed), normally we could have expected an equally huge rally.  But the market finally tanked instead due to the credit crisis and all the cash actually went into treasuries, driving down rates.

The Fed reversed course for a couple of days, then dropped a bomb on Thursday with the addition of $92B into the market, which is the most I have ever seen.  Previous to that, Monday was the most.  This week by far shows the most Fed action in OMO that I have ever personally tracked.  Normally we can discount Thursday’s action because it is always the heaviest day anyway because of the weekly loans that the Fed does, but this Thursday was an exception.  Not only that, but these are usually done overnight, so that by the time we are drinking coffee in central time, all of this data is available.  But on this Thursday, the Fed came back in to save the day and added funds in the morning and afternoon. You can look on the chart and see what the collateral was.  Total MBS bullshit.  In the overnight, I think the original addition was only $15B or so, which is normally a nice amount but was at the time the lowest net daily change made so far this week.

Note that they withdrew $80B on Friday and greatly reduced the amount of MBS they held from Thursday.  They appear to have been whittling away at their agency holdings since the FNM/FRE bailout.

Note that the balance of treasuries on their OMO books is now ZERO.  If this is not a mistake, it is a stunner. They still have other treasury assets even if this is true for OMO, but I am still trying to wrap my head around this.  I’m not sure of all the ramifications, but it seemingly means that they will be forced to juggle their treasury assets out to the firms that are in the absolute direst need.  Perhaps the Fed has done just about all it can do, which would help explain the total freak-out we are seeing in DC.

The guys at The Wall Street Examiner do the best job of tracking the Fed, IMO. I went to get the link to their website last night when I first wrote this up and I found this story:

http://wallstreetexaminer.com/?p=3161#comment-88641

In short, the Fed is now going to accept GSE paper directly from the primary dealers w/o worrying about shuffling around the treasuries.  What next?  MBS I would suppose.  Only the “highest rated” ones as judged by our infallible ratings agencies!  Then maybe corporate bonds?  The Fed knows that it is on a slippery slope here.

This also implies something else:  That the Fed is finally going to start up the printing press and monetize the debt.  The ramifications of that must be the topic of later discussion; the results may not be what people assume.