What you should know about the FED and its huge gamble

What you should know about the FED and its huge gamble

Most profitable company in 2010 was the FED, not Exxon, Microsoft, Coke, Apple or Walmart. It earned 79.3 Billion

In ’07 its profits were $38.7 billion and raised to its super highs because it started taking huge risks and bets.  It reduced its U.S. Treasury exposure and added billions in risky and high risk assets such as Bear Sterns collateral, AIG assets and mortgage backed securities, and Fannie Mae and Freddie Mac agency debt.  At the same time it still does not report under GAAP aka “generally accepted accounting practices.

Before the crisis, the  Federal Reserve’s balance sheet had few or no credit risks, most were treasuries, foreign-exchange and debts of other countries.  Now only a little loan-loss provision was ever established, unlike other responsible financial institutions.  We are waking up where are the adequate loan-loss reserves in the Fed?  What about the $29 billion of Bear Stern’s and AIG Assets valued at $37 billion?

For the last four years the bed have, on the open market purchased long term mortgage backed securities and agency security debt mostly from Fannie Mae and Freddie Mac.  These are still valued at more than $1 trillion.  These securities have an average maturity date of over 10 years and are loaded with subprime loans.  This is not low risk and there should be capital set aside for losses.  There are currently none.  The Fed notes that these agencies are guaranteed, even though they are bankrupt and their billions of losses have to be covered by the U.S Treasury.  As the fed bails out the government agencies it bails out the Fed, making these profits an illusion to the tax payer.

The Fed has signaled that they will offload their $1 trillion in mortgage and treasury securities over an unknown period of time, after the economy gets better.  But as these will get unloaded, interest rates will by necessity be higher and the Fed will eat massive losses.

Example: if the fed sells a 30 year mortgage security which is at 4.5% and sells at 5.5%, a 10 billion worth of these bands will decline 1.5 billion in value and a 15% loss.  A trillion will mean 1.5 billion.  Please remember that the capital at the Fed is only $53 billion in capital as of a few months ago.  It may get wiped out, needing a massive taxpayer bailout.

Before 2007 and the financial crisis the Federal Reserve usually held their capital ratio at about 4%.  When only owning government bonds this may have been acceptable.  Compare that to typical banks which hold around 8% in tier 1 capital on its balance sheet.  But since 2008 the Fed has increased its holdings at a dramatic rate.  Again these holdings of are a riskier nature.  They contain credit and interest rate risks. The Fed now has a capital or safety ratio of 1.2% by the end of 2010 even though it has taken on unprecedented risk.  As of mid 2011, the capital ratio has fallen to less than 1%.  Even if they kept all of their $79 in profits from 2010, they would still be at a 4% reserve ratio.