Fed Says Bear Stearns Portfolio Declines $2.7 Billion (Update1) By Scott Lanman Oct. 23 (Bloomberg) -- The Federal Reserve reduced the estimated value of the Bear Stearns Cos. assets it took on in June by $2.7 billion, or 9.2 percent, as the worsening credit crisis forced more markdowns on mortgage-backed debt. Separately, the Fed's direct loans to commercial banks rose to a record $107.5 billion yesterday from $101.9 billion a week earlier. Cash borrowing by securities firms totaled $102.4 billion, down from $133.9 billion, the central bank said today in a weekly report. Fed Chairman Ben S. Bernanke said in April he expected to recover the Bear Stearns loan in full. Since then the government has tried to halt the credit crisis by using taxpayer funds in other rescues, including a $700 billion program for buying troubled assets and injecting capital into banks, and a $123 billion Fed bailout of insurer American International Group Inc. The ``fair value'' of the Bear Stearns assets was $26.8 billion as of yesterday, reflecting values as of Sept. 30, compared with a figure of $29.5 billion released on Oct. 16, reflecting values as of June 30. ``This is what can happen when you take risk on the balance sheet,'' said Brian Sack, a former Fed researcher who is now senior economist at Macroeconomic Advisers LLC. Still, it's ``small potatoes'' compared with other initiatives. ``They're not overly concerned with the mark-to-market values especially in a time when financial markets are so turbulent.'' Subprime Mortgages Analysts at Bank of America Corp. predicted a drop ranging from $2 billion to $6 billion. About half of the portfolio is backed by commercial mortgages and half by residential loans, 80 percent of which are Alt-A mortgages that fall between prime and subprime, Jeffrey Rosenberg and Hans Mikkelsen wrote in a note to clients, citing a presentation by JPMorgan Chase & Co. The Fed revalued the underlying assets of the portfolio as of Sept. 30, in accordance with policy to assign a new ``fair value'' each quarter. Weekly calculations of the net portfolio value are updated to reflect accrued earnings and expenses. Today's report also showed that Fed financing of asset- backed commercial paper held by money market mutual funds dropped to $107.9 billion from $122.8 billion. AIG tapped $90.3 billion of its credit line from the Fed as of yesterday, up from $82.9 billion last week. The company may need to borrow more if capital markets fail to improve, Chief Executive Officer Edward Liddy said yesterday. The Fed first provided an $85 billion loan Sept. 16, then authorized another $37.8 billion on Oct. 8. Cash Hoarding Central bankers are flooding financial institutions with temporary loans in an effort to overcome cash hoarding by banks. The loans have enlarged the Fed's balance sheet to $1.8 trillion, compared with $1.77 trillion last week and almost double a year earlier. The federal funds rate stands at 1.5 percent, with the discount rate at 1.75 percent. Average daily discount window borrowing was $105.8 billion during the week ended Oct. 22, up $6.1 billion from a week earlier. In the case of Bear Stearns, the Fed loaned $28.8 billion to Maiden Lane LLC, a company formed to buy the investments, which in March included debt backed by mortgages and other items JPMorgan deemed too risky when taking over the firm. JPMorgan is absorbing the first $1.15 billion of any losses on the holdings. The decline from the original $30 billion estimated value in March indicates that the Fed's share of losses totals about $2 billion so far. BlackRock Inc. is managing the portfolio. Marked Down Goldman Sachs Group Inc., for example, marked down its holdings of bonds backed by Alt-A mortgages to 50 cents on the dollar on average on Aug. 31. Mortgage bonds with AAA ratings were being offered at about 60 cents to 70 cents on the dollar, a portfolio manager said earlier this month. The Fed said today that its loan outstanding remains at $28.8 billion, showing that Maiden Lane has yet to start paying off the debt. The central bank has 10 years to sell the assets. The loan carries the interest rate charged to commercial banks for discount-window loans. The central bank has declined to provide details on the securities and isn't planning to disclose changes in the makeup of the portfolio. The asset mix may change to include securities that weren't in the original pool. Bernanke said April 3 that the Fed has ``reasonable comfort that if we can sell these assets over a period of time that we will recover principal and interest for the American taxpayer.'' Maximum Growth The Fed also reported that the M2 money supply rose by $43.6 billion in the week ended Oct. 13. That left M2 growing at an annual rate of 6 percent for the past 52 weeks, above the target of 5 percent the Fed once set for maximum growth. The Fed no longer has a formal target. The Fed reports two measures of the money supply each week. M1 includes all currency held by consumers and companies for spending, money held in checking accounts and travelers checks. M2, the more widely followed figure, adds savings and private holdings in money market mutual funds. During the latest reporting week, M1 fell by $8 billion. Over the past 52 weeks, M1 increased 4.2 percent. The Fed no longer publishes figures for M3. To contact the reporter on this story: Scott Lanman in Washington at slanman@bloomberg.net Last Updated: October 23, 2008 17:40 EDT http://www.bloomberg.com/apps/news?pid=20601087&sid=aEZiY02M5pIA&refer=home