The Anatomy of a Financial Crisis: The Evolution of Runs in the Asset-Backed Commercial Paper Market Daniel Covitz, Nellie Liang, and Gustavo Suarez* Federal Reserve Board San Francisco, January 2, 2009 * The views expressed here do not reflect those of the Federal Reserve System or its Board of Governors.

2 Overview I.Asset-Backed Commercial Paper (ABCP) in 2007 II.Why ABCP programs may be subject to “runs” III.Differences across ABCP programs IV.Measuring runs V.Explaining runs VI.Conclusions

3 The ABCP market in 2007: Outstandings

4 The ABCP market in 2007: Spreads

5 Why ABCP programs may be subject to runs Run-like episodes in the unsecured commercial paper market: Penn Central in 1970 (Calomiris, 1995) Most ABCP programs share bank-like features: 1.Assets are opaque 2.Liabilities are shorter-term and more liquid than assets 3.Explicit mechanisms to mitigate maturity/liquidity mismatch

6 Types of ABCP programs

7 Sponsors in the ABCP market Sponsors typically provide liquidity and/or credit support Sponsor type provides information about credit and liquidity risks Types of sponsors: 1.Large US banks 2.Small US banks 3.Non-US banks 4.Nonbanking institutions

8 Measuring runs: Methodology Use transaction-level data from DTCC for all programs in the US market. Weekly, Jan-Dec, 2007 Define a run on an ABCP program as occurring if a program is unable to issue new paper to fund maturing obligations

9 Measuring Runs: Results Runs appear to have occurred in the ABCP roughly starting in Aug 2007:

10 Measuring Runs: Results ABCP runs were absorbing states starting Aug 2007:

11 Explaining runs: Methodology Similar to literature on traditional bank runs: Gorton (1988), National Banking Era crises Calomiris and Mason (2003), 1930s failures Primary hypotheses: H1: Runs are related to program fundamentals H2: Runs are triggered by panic

12 Explaining runs: Methodology Fundamentals: Program-level variables Program type: proxy for mortgage exposure in assets Sponsor type: proxy for support strength Contractual features and ratings “Panic”: Time dummies (common to all programs) Starting in Aug 2007, run one regression per month with weekly observations:

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18 Additional regression results Results are similar when augmenting regressions to include interactions of program-type dummies with returns on the ABX index Spread regressions: –Program types and sponsor types more subject to runs tended to pay higher spreads –Suggests that the runs we measure reflect difficulties in issuing rather than less willingness to issue

19 Conclusions Some evidence that ABCP programs were subject to runs in Aug-Sept 2007 Runs during financial turmoil were related to fundamentals, but runs in initial weeks were also driven partly by panic More nuanced view of crisis compared to the evidence from banking crisis (e.g., Gorton, 1988; Calomiris and Mason, 2003)

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21 The ABCP market Stylized transaction:

22 Types of ABCP programs Program typeAssetsLiquidity Support Number of programs (Jan 2007) Percent of outstandings (Jan 2007) 1. Multi sellerReceivables and loans Typically full Non- mortgage single seller Credit-card and auto receivables Implicit by originator Mortgage single seller Mortgages and MBS Implicit by originator Securities arbitrage Highly rated long-term securities Typically full SIVHighly rated long-term securities Small CDOHighly rated long-term securities Partial Hybrid and other 7718

23 Market behavior at the onset of financial turmoil

24 Market behavior at the onset of financial turmoil

25 Distribution of overnight ABCP spreads

26 Distribution of overnight ABCP spreads

27 Distribution of overnight ABCP spreads

28 Distribution of overnight ABCP spreads

29 Spreads for different program types

30 Explanatory power (Adj R 2 ) of program characteristics

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