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The Fed and Carlyle

• Robert Peston
• 13 Mar 08, 07:13 AM

, the leveraged-mortgage vehicle of the famous, eponymous private-equity firm, said over night that it has been unable to stabilise its financing and that its 鈥渓enders will promptly take possession of substantially all of the company鈥檚 remaining assets鈥�.

So almost within the blink of an eye, a business that had borrowed $21bn from the world鈥檚 biggest banks to invest in high-quality mortgage-backed securities will be gone, liquidated, kaput.

Such is the whirlwind blowing through global financial markets.

What鈥檚 the damage? Well the equity in the business, about $670m, looks as though it will be wiped out.

In the scale of credit-crunch losses, that鈥檚 an 鈥渙uch鈥� rather than a 鈥測ikes鈥�. The suppliers of that equity include Carlyle鈥檚 own partners. They鈥檙e a bit poorer than they were.

More worrying is the explanation for why lenders are seizing the assets, which are US government agency AAA-rated residential mortgage-backed securities (RMBS).

Carlyle says: 鈥渘egotiations deteriorated late on March 12 when, among other things, the pricing service utilized by certain lenders reported a drop in the value of RMBS collateral that is expected to result in additional margin calls鈥�.

That statement will reverberate through global markets today.

Why?

Well, the point of Tuesday鈥檚 dramatic $200bn intervention by the Federal Reserve in mortgage-backed markets was to stabilise the price of US government agency AAA-rated residential mortgage-backed securities and 鈥� by implication 鈥� to encourage the big banks NOT to seize assets in the way they鈥檝e been doing at Carlyle.

Right now, it鈥檚 not clear that the Fed鈥檚 medicine has worked.

In fact, it鈥檚 arguable that the banks鈥� seizure of Carlyle鈥檚 $20bn-odd in assets has actually been encouraged by the Fed's mortgages-for-Treasuries offer. Because the Fed鈥檚 new lending emergency lending facility allows the banks to swap mortgage-backed debt for Treasury Bills in a way that Carlyle could not do.

So it would be rational for the banks to take Carlyle鈥檚 assets and exchange them for top-quality, liquid US government bonds, rather than leave loans in place to a business, Carlyle, whose assets remained highly illiquid.

If that鈥檚 the case, there will be some very scared people in hedge-fund land today. Hedge funds that have borrowed from banks against the security of mortgage-backed debt could be about to see their assets sucked into the banking system and their businesses vanish.

It鈥檚 a process known as de-leveraging the global financial economy, yet another manifestation of the puncturing of the debt bubble.

Many will see it as a healthy cleaning of the Augean stables. But if it is, it certainly won鈥檛 be completed in a day 鈥� and, as I鈥檝e said many times, it won鈥檛 be painless for the rest of us, because de-leveraging also means they'll be less credit for all of us.

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