A Perspective on TALF

Caution the road is wet

By JENNY STRASBURG

Hedge funds of all sizes and strategies are expressing strong interest in the government’s plan to unclog consumer-lending pipelines. Now they and other investors need to decide Friday if they will participate in the first round of borrowing through the Term Asset-Backed Securities Loan Facility, or TALF.

Some of the biggest hedge funds in the business have participated in calls and meetings with other hedge-fund managers, lawyers and regulators about the program. They include Harbinger Capital Management, Highbridge Capital Management, Elliott Management Corp., Paulson & Co., Perry Capital, Citadel Investment Group, Cerberus Capital Management and D.E. Shaw Group.

It isn’t clear how many ultimately will participate in TALF, which eventually could finance as much as $1 trillion in deals. Some hedge funds simply have been asked to provide input for how the program should operate or are monitoring it because of its potential impact on the markets.

The Federal Reserve and Treasury Department program, starting next week, will provide cheap funding aimed at kick-starting the market for highly rated securities backed by loans for automobiles, college tuition and other assets. That market has all but frozen during the prolonged credit crisis, and getting it flowing again is seen as crucial to an economic recovery.

The main question many hedge funds are weighing is whether the potential upside of participating in the first round of funding outweighs some of the still-unknowns, according to fund managers, lawyers representing both funds and dealers, and others involved in the talks.

Dealers, mostly Wall Street banks, are in the program acting as the lender, using financing provided by the Federal Reserve through a master loan agreement. It is the dealers’ job to select eligible investors. The dealers have set Friday as a deadline for investors to decide whether they want to apply to participate in the first round of TALF-funded deals.

At issue still are terms in the agreements between dealers and funds that hedge funds say would expose them to losses greater than what they invest in the program. Dealers are saying they have to protect themselves from potential losses.

Conference calls and meetings about TALF have continued almost nonstop this week in Washington and New York, people involved in discussions say. People involved, from the regulators to Wall Street firms and hedge funds, have made concessions, and dealers and hedge funds are both sensitive to concerns that they’ll be seen as holding up TALF. Executives of the Managed Funds Association, the hedge-fund industry’s chief U.S. lobbying group, have told some of the group’s members that hedge funds are especially vulnerable to being painted as more concerned about profits than an economic recovery.

“I expect a number of big investors will wait and participate in the April funding rather than the March funding,” Paul Watterson, a fund lawyer with Schulte Roth & Zabel in New York. “There’s a big gap between what the primary dealers want in the customer agreement and what the big investors in this market were expecting.”

Dealer-investor agreements aren’t written in stone, and the agreements also could end up being customized during negotiations between banks and hedge funds, despite efforts to have a uniform agreement in place, say people familiar with the discussions.

“I think this first subscription is really a learning experience for everybody,” says Chris Killian, associate director of the American Securitization Forum, which represents structured-finance market participants. “Nobody knows exactly what to expect out of this, and the agreement is going to get better because of it.”

The American Securitization Forum and the Securities Industry and Financial Markets Association, representing the dealers participating in TALF, drew up the roughly 40-page document designed to serve as a contract between dealers and funds seeking to invest in the program.