Firms to create $80-billion fund to ease credit crunch

Citigroup Inc., Bank of America Corp. and JPMorgan Chase & Co. will announce as soon as today that they are establishing a fund of about $80 billion aimed at reviving the asset-backed commercial paper market, people familiar with the plan said.

The fund, to which other firms will probably contribute, will buy some assets from structured investment vehicles, or SIVs, the people said. SIVs are units set up by banks, hedge funds and other investors to finance purchases of securities, including corporate bonds and mortgage debt.

The Treasury Department encouraged the banks to work together, and it jump-started the talks with a meeting of Wall Street executives in Washington on Sept. 16, said a person with knowledge of the deliberations.

Robert Steel, the Treasury’s top domestic finance official, brought the lenders together and prodded the competitors to keep working through the following weeks. Treasury Secretary Henry M. Paulson, a former chief executive of Goldman Sachs Group Inc., also made calls.

“Paulson definitely has the cachet to bring everyone to the table because of his long experience on Wall Street,” said Joe Mason, associate professor of business at Drexel University in Philadelphia and a former financial economist at the Treasury’s Office of the Comptroller of the Currency.

The fund would help SIVs, which own $320 billion of assets, avoid selling their holdings at fire-sale prices, further roiling the credit markets. The sudden increase in borrowing costs for companies and consumers in August threatens to worsen a housing recession that has slowed the pace of economic growth.

Encouraging the talks that led to the creation of the fund is the latest effort by officials to help restore liquidity to credit markets, a campaign started by the Federal Reserve on Aug. 17, when it cut the interest rate on direct loans from the central bank. A month later, the Fed cut its benchmark rate by half a point to 4.75%. Fed officials said this month that although there were signs of improvement, some markets remained under stress.

“Some markets have been experiencing illiquidity,” San Francisco Fed President Janet Yellen said in a speech Tuesday in Los Angeles, referring to mortgage-backed securities and asset- backed commercial paper. “This illiquidity has become an enormous problem for companies that specialize in originating mortgages and then bundling them to sell as securities.”

Rising mortgage defaults by Americans with poor credit histories prompted the collapse in June of two hedge funds managed by Bear Stearns Cos. and triggered a worldwide rout in the debt markets.

As losses in securities linked to sub-prime mortgages started to spread in July, investors retreated from high-risk assets. SIVs that issued commercial paper to buy the securities found they could no longer roll over the debt, forcing them to sell about $75 billion of their assets.

The group formed by Citigroup, Bank of America and JPMorgan will be known as the Master Liquidity Enhancement Conduit, or M-LEC, the people said. The fund will buy securities rated AAA or AA at Standard & Poor’s and Aaa or Aa at Moody’s Investors Service, the people said. It will, at least initially, avoid assets backed by sub-prime mortgages, they said.

“This is mostly symbolic,” said Christian Stracke, a London-based strategist at CreditSights Inc., a New York bond research firm. “The banks were going to need to inject more liquidity into the SIVs anyway, so the public cooperation just makes the bailouts of SIVs seem more orderly.”