Credit markets to Washington: Bailout isn't enough

By Madlen Read

NEW YORK (AP) -- The credit markets finally got a bailout bill, but the stranglehold hasn't let up -- a troubling sign that lenders and investors believe the package will only be a baby step in the long road to economic recovery.
The credit markets, where companies go to get cash loans, have seized up since the bankruptcy of Lehman Brothers Holdings Inc. and in anticipation of the $700 billion plan initially voted down by the House. The House passed a revised version of it Friday following the Senate's approval earlier this week, but anxiety about its effectiveness kept demand for Treasury bills high and nearly nonexistent for other types of debt.

Overall, market participants have begun regarding the rescue plan as a medicine for what's ailing the financial system, but not a cure-all.

"At best, we can hope that it stems some of the more intense risk from the credit crisis. It prevents things from spiraling out of hand here," said JPMorgan Chase economist Michael Feroli.

Some are worried, though, that the plan will not work at all.

"Nobody knows how it's going to succeed," said Howard Simons, strategist with Bianco Research in Chicago. "It seems the American public had better sense than Wall Street and Washington -- the American public said, don't throw good money after bad."

The Treasury will buy banks' risky mortgage-backed assets in an effort to alleviate investors' worries about the institutions' solvency and free them up to do more lending. Even if those efforts succeed, the effects will be far from instantaneous, and borrowing could remain very expensive for some time. With the economy in such a weak state, lending to consumers and businesses will still appear risky until certain factors -- particularly employment and the housing market -- improve.

The Labor Department said employers cut payrolls by 159,000 in September, the largest loss in more than five years, while unemployment remained at 6.1 percent.

Layoffs are likely to keep piling up if it remains tough to find credit. Spectrum Yarns Inc., a North Carolina textile company, said it closed two plants and laid off 200 workers this week because it got turned down by a North Carolina bank, a New York finance company, and several private lenders.

It could also get even harder for certain individuals to get home loans. Banks have gotten more stringent in their mortgage underwriting, and Wisconsin's affordable-housing agency recently suspended making loans for single-family homes because it was unable to sell tax-exempt mortgage revenue bonds and raise capital.

It's not that financing has completely dried up. For example, Toyota Motor Corp. on Friday offered zero-percent financing on nearly a dozen models to lure customers, who've been having a harder and harder time finding car loans.

But many companies aren't in a position right now to be so aggressive -- particularly banks that have been losing billions of dollars on their mortage assets.

On Friday, the London Interbank Offered Rate, or LIBOR, for three-month dollar loans rose to 4.33 percent from 4.21 percent Thursday. That bank-to-bank lending rate has been rising all week, showing that banks are growing less and less willing to lend out their cash for longer than overnight.

LIBOR is tied to many consumer rates like adjustable-rate mortgages.

In one promising sign, overnight lending has gotten significantly cheaper -- LIBOR for overnight dollar loans plunged to a hair below 2 percent on Friday, the lowest rate in nearly four years, from 2.67 percent Thursday.

That overnight rate is now below the Fed's key bank-to-bank overnight lending rate, known as the target fed funds rate, of 2 percent. It appears that central banks' decision to ramp up their lending to financial institutions over the past couple weeks is having a positive effect.

But that's little solace to borrowers who need a loan for longer than overnight.

Over the past week, the amount of short-term corporate debt known as commercial paper on the market has plunged. And banks and investment firms have borrowed in record amounts from the Federal Reserve's emergency lending facility.

Money market mutual funds, usually the biggest buyers of commercial paper, have run for safety after a money market fund "broke the buck" two weeks ago due to its exposure to Lehman. When a fund breaks the buck, it does not have enough assets to cover every dollar invested in it. Instead of commercial paper, they've been investing in Treasury bills.

"There's really no theme except the theme of survival," said John Spinello, bond strategist at Jefferies & Co., referring to the constricted trading in the credit markets Friday.

The impact of the credit market seize-up has been widespread, affecting individuals, small businesses, large companies and municipalities.

Gov. Arnold Schwarzenegger said Friday California might to take out short-term loans from the federal government if the markets don't loosen up.

Also Friday, YRC Worldwide Inc., one of the nation's largest trucking companies, said it drew down $325 million on a credit line to repay some debt that matures this year and next.

After the House's vote Friday afternoon, the yield on the three-month Treasury bill slipped to 0.50 percent from 0.70 percent late Thursday. There has been no decrease in demand for T-bills, seen as the safest assets around, even though they are offering extremely low returns. The discount rate on the three-month was 0.47 percent.

There was little change in the strained credit default swap market, either, according to data from Phoenix Partners Group. Credit default swaps are essentially insurance policies against bond defaults; when rates are high, it means the market is betting on a higher probability that a company will fail to pay back its loan.

The stock market sank after the House passed the plan, sending investors back into longer-term Treasurys.

The 2-year note rose 1/32 to 100 26/32, with a yield of 1.58 percent, down from 1.62 percent late Thursday.

The 10-year note rose 7/32 to 103 10/32, and yielded 3.60 percent, down from 3.64 percent.

The 30-year bond rose 1 3/32 to 107, and yielded 4.09 percent, down from 4.16 percent.

AP Business Writer Emery P. Dalesio in Charlotte, N.C., AP Business Writer Dan Strumpf in New York, and Associated Press Writer Judy Lin in Sacramento contributed to this report.

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