Master conduit trio joined by Wachovia

SIVs are term arbitrage vehicles that fund themselves in short-term money markets while investing in longer-dated credit assets. They have been rocked by a disappearance of short-term funding amid investor nerves concerning the credit investments they are holding, and a number have had to be restructured or liquidated.

The banks plan to create the $75 billion-$100 billion Master Liquidity Enhancement Conduit (MLEC), which is intended to enhance liquidity in the market for asset-backed commercial paper (ABCP) and medium-term notes issued by SIVs.

In a statement, Bank of America, Citi and JP Morgan said: “Refinancing in the ABCP markets has been difficult despite the high-quality collateral underlying many of these securities. The objective of MLEC is to facilitate these refinancings and to complement other market-based solutions in supporting an orderly and efficient market environment.”

MLEC will agree to act as a buyer for highly rated assets held by struggling SIVs who need to finance pending redemptions or ABCP rollovers. It is thought it will sell put options to struggling SIVs for what it nominates as eligible assets. MLEC would finance its purchases with ABCP and have full par-value liquidity lines to the major dealers involved.

There has been much speculation about the exact form the vehicle will take. Birgit Specht, London-based head of securitised product strategy for Europe at Citi, said it will amount to a cross between a conduit and an SIV. “Any potential ABCP issuance would be fully backed by banks’ liquidity lines. That is a key conduit feature.” The lack of full par-value liquidity lines in times of market stress has been a hindrance to beleaguered SIVs.

But a feature more common to SIVs is the use of capital notes to provide credit enhancement to other debt holders. Capital notes are unsecured and are backed only by an entity’s credit rating. They will be used to allow SIVs that sell assets to the conduit, or other investors, to participate in the benefits if those assets appreciate in value.

The US Treasury facilitated the discussions between the banks and investment managers that produced the plan. Talks are now continuing on the breadth of assets that will be eligible for purchase by MLEC, which most believe would not include those linked directly to the US subprime mortgage market. The consortium is also seeking to involve several other financial institutions to act as liquidity providers to MLEC, to ensure it is sufficiently large to fulfil its purpose. The three banks claim it could be operational within three months.

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