Fed Adds $35 Bln in Funds, Most Since September 2001 (Update6)

Aug. 10 (Bloomberg) -- The Federal Reserve added $35 billion in temporary funds to the banking system through the purchase of securities including mortgage-backed debt to meet demand for cash amid a rout in bonds backed by home loans to riskier borrowers.

The Fed's additions totaled the most since September 2001. They came in two weekend repurchase agreements, of $19 billion and $16 billion, for which the Fed accepted securities including mortgage-backed debt, so-called agency debt and Treasuries as collateral. Losses in U.S. subprime mortgages have been rippling through credit markets, driving interest rates higher and sinking stocks. The Fed added $24 billion yesterday.

The New York Fed's actions lowered the Federal funds rate to 5.25 percent, matching the bank's benchmark overnight rate, according to ICAP Plc. The rate began trading today at 6 percent, the highest open since January 2001. Treasuries fell after the additions, stocks rebounded and the dollar rose against the yen.

``They've been very aggressive and they want to make sure there's sufficient liquidity in the financial market,'' said Ward McCarthy, principal at Stone & McCarthy Research in Skillman, New Jersey. ``It looks like they succeeded.''

2001 Record

The Fed's benchmark was 6 percent the last time fed funds opened at today's level. On average, the Fed has added about $9 billion in temporary funds daily this year through yesterday.

In the week after the Sept. 11, 2001, terror attacks, the Fed added a daily average of $75.3 billion in reserves through repos. The record was $81.25 billion on Sept. 14, 2001.

Stocks dropped worldwide earlier on speculation losses in mortgage debt will hurt economic growth and earnings. European benchmark indexes fell 1 percent or more.

The European Central Bank today loaned 61.05 billion euros ($83.6 billion), pumping funds into the banking system for a second day. The ECB added an unprecedented 94.8 billion euros yesterday.

Some banks may experience ``unusual funding needs,'' the Fed said in a statement from Washington. The Fed's discount window is open and the central bank pledges to provide liquidity, the Fed said.

As of yesterday, interest-rate futures for August showed investors saw more than a 50 percent chance the Fed will cut the key rate a quarter-point on any day from Aug. 16, Merrill Lynch & Co. said in a report yesterday. An August rate cut is a ``genuine possibility,'' JPMorgan Chase & Co. said in a report today.

``Because of today's operations, the probability of an August cut has gone down,'' said Dominic Konstam, head of interest-rate strategy in New York at Credit Suisse Group. ``The Fed is going out of its way not to cut rates to resolve the liquidity issue.''

`Special Demand'

Countrywide Financial Corp., the biggest U.S. mortgage lender, said it faces ``unprecedented disruptions'' that may reduce profit, suggesting a credit crunch that started with the U.S. subprime market will spread. BNP Paribas SA, France's biggest bank, helped spark financial market turmoil yesterday by halting withdrawals from three investment funds because it couldn't value their holdings.

The New York Fed accepted $19 billion of securities in today's first repurchase agreement, of $31.2 billion submitted. In the second, it took $16 billion of $40.95 billion submitted.

The central bank probably received only mortgage-backed debt in today's operations, said Louis Crandall, chief economist at Wrightson ICAP LLC in Jersey City, New Jersey. The central bank likely wanted to avoid taking Treasury debt at a time when government securities are in demand as a safe haven, he said.

``The Street has special demand for the highest-quality Treasury collateral right now, so the Fed chose to leave Treasury collateral,'' Crandall said. ``It should not be taken as a sign that basic Fannie Mae and Freddie Mac mortgage pools are difficult to finance.''

Overnight Rates

The Fed typically only accepts so-called agency mortgage- backed securities, such as those guaranteed by government- chartered Fannie Mae or Freddie Mac, rather than non-agency home- loan bonds from other financial institutions. Issuance and trading of non-agency bonds, including securities backed by subprime mortgages, has ground to a near-halt the past month.

Overnight euro rates again rose to as high as 4.27 percent today, compared with the ECB's benchmark rate of 4 percent.

Fed funds, the U.S. overnight interbank lending rate, closed at 4 15/16 percent yesterday, after trading between 4 3/4 percent and 5 3/4 percent, and averaging 5.38 percent, according to ICAP Plc, the world's largest inter-dealer broker.

In repos, the Fed buys U.S. Treasury, mortgage-backed and so-called agency debt from its 21 primary dealers for a set period, temporarily raising the amount of money available in the banking system. At maturity, the securities are returned to the dealers, and the cash to the Fed.

Repos help maintain enough money in the system to keep overnight interest rates close to the central bank's target. They don't signal a policy shift.