By ANUSHA SHRIVASTAVA
NEW YORK -- The U.S. commercial paper market shrank for the fifth consecutive week but the slowing pace of declines shows this market may be stabilizing as the Federal Reserve sets up a facility to support it.
Investors are not only returning to this market, which companies rely on for short-term expenses like rent and payrolls, they are also willing to lend for more than just one day, saving the issuers the trouble of constantly refinancing their debt.
Market participants expect further improvement once the Fed's commercial paper backstop is operational in two weeks, but there are still lingering doubts about whether enough companies will participate in the program to make it successful.
Another positive sign is that the asset-backed segment of the commercial paper market finally grew this week, even though by just $400 million, according to data released Thursday by the Federal Reserve.
"It's a good sign that it didn't go down," said Ira Jersey, interest rate strategist at Credit Suisse, who noted that there will likely be a more substantial improvement only after the Fed's facility to buy directly from highly-rated issuers is fully functional Oct. 27.
The commercial paper market shrank by $40.3 billion on a seasonally-adjusted basis in the week ended Wednesday, Fed data show. The market was closed Monday for the Columbus Day holiday.
In the prior week, it fell by $56.4 billion, down from the more pronounced shrinkage of $94.9 billion in the week before.
The cumulative decline in the past five weeks is $304.7 billion. This brings the size of this market to $1.511 trillion, down from the $2.2 trillion peak in July, 2007.
Thursday's data show financial sector commercial paper outstanding declined by $36.1 billion this week versus a $42.4 billion decline last week. The level of shrinkage is down though, as this segment had declined by $64.9 billion two weeks ago.
Investors' interest in paper that matures past just one day is also increasing. For double-A rated financial paper that matures in 41 to 80 days, the weekly average outstanding rose to 150 billion this week, up from just 38 billion in the week ended Oct. 3, according to Fed data.
For the same issuers, for debt maturing in one to four days, the weekly average outstanding is $9.4 billion versus $8.05 billion in the week ended Oct. 3, but down from $10.27 billion in the week ended Oct. 10.
Mr. Jersey also said the Fed's program "will ultimately help because some people will use it" but the "magnitude of its impact is in question," because it is not clear what the participation will be like.
Only highly-rated U.S. issuers of commercial paper, including U.S. issuers with a foreign parent, are eligible to participate. They have to register for the program beginning Oct. 20 and pay an upfront fee.
For unsecured debt, they then have to pay the three-month overnight index swap rate plus 1.0 percentage point and an additional 1.0 percentage point surcharge. For commercial paper backed by assets, the cost will be the overnight index swap rate plus 3.0 percentage points.
Some market participants have voiced their concern about the costs associated with participating in the program, fearing this may even steer them away from it.
For its part, the Fed has said the higher-than-market costs are designed to keep investors and issuers trading with each other, with the Fed acting only as the fallback option.
Their aim is to ease strains in the market, which has been under renewed stress in recent weeks.
It first contracted sharply in August 2007 when investors fled due to an exposure to subprime-related mortgages.
In the past few weeks, the decline was driven by money market funds, which were hoarding their cash for fear of redemptions. This may also change as investors put about $58.38 billion into money market funds in the week ended Oct. 14, according to Money Fund Report, published by iMoneyNet, a research firm that monitors money fund data.
Money market funds are the largest buyers of commercial paper, purchasing about a third of outstanding paper. Other buyers include retirement and pension funds, corporate treasuries and life insurance companies.
Commercial paper generally offers a higher yield than other short-term assets like Treasurys and certificates of deposit.
