UPDATE 2-Fed posts reverse repo pact for money market funds

* Key 7-day put clause helps funds maintain liquidity

* Master contract means Fed can begin testing reverse RPs
(Adds analyst quote, background)

By Emily Flitter

NEW YORK, April 30 (BestGrowthStock) – The Federal Reserve Bank of
New York has moved a step closer to testing reverse repurchase
agreements with money market funds, a key element of the Fed’s
plan to drain excess liquidity from the financial system.

The New York Fed on Friday posted on its website a master
agreement it will use with money market funds to engage in
reverse repos. The contract details the steps the New York Fed
and money market fund counterparties will have to take to enter
into a reverse repo agreement. Such an agreement would lock up
cash at the Fed for a predetermined amount of time.

“This clears the way for testing, but does not signal that
a major reserve drain is imminent,” said Alex Roever, a
fixed-income strategist at JPMorgan Securities in New York.
“We’ve been expecting this for some time.”

Investors are watching the Fed’s operations on money and
other securities markets closely for any signs of it reeling in
more of the emergency support it has given the economy in
addition to cutting benchmark interest rates to record lows.

It is expected to do more on that front before it begins to
look at raising interest rates, which policymakers have
committed to keeping ultra-low for an extended period.

In a repurchase agreement, the Fed makes collateralized
loans to borrowers, temporarily adding reserve balances to the
banking system. A reverse repo drains reserves.

Money market funds, which are currently overhauling their
investment practices to adhere to new liquidity rules, will
have the option to break the repo agreements using a seven-day
put. That would allow the funds to liquidate their repo
holdings and retrieve cash quickly in the event of an
emergency.

The presence of the seven-day put in the contract was seen
as essential to the funds’ participation in reverse repos with
the Fed.

The new contract is based on a master repurchase agreement
drawn up by the Securities Industry and Financial Markets
Association, a Wall Street trade group.

During the financial crisis, the Fed slashed interest rates
and flooded markets with cash. Reverse repos are one of several
tools, including paying interest on bank reserves and possibly
selling assets, the Fed can use to drain excess cash out of the
financial system now that the crisis has subsided.

Stock Market Investing
(Editing by Andrea Ricci, Patrick Graham)

UPDATE 2-Fed posts reverse repo pact for money market funds