`

The Shadow Banking System

Conceptualized, designed and created by Zoltan Pozsar (zoltan.pozsar@ny.frb.org)
The Federal Reserve Bank of New York, November, 2009

The Traditional Banking System

(Short and Long-Term Deposits

Short-Term Funding Short- to Long-Term Cash
Ultimate Borrowers Depositors Ultimate Creditors

("Ori gi nate-to-Hold-to-Maturity-and-Fund-wi th-Deposi ts")

Debt Funding
De posits Money Market "Portfolios"
Checking Checking
Short-
Accounts Account
Loans Deposits Equity Term

The Traditional Bank ing Sy ste m

MMDAs Households, Businesses
CDs Savings
Households, Businesses, Governments Com merc ial Bank s CDs and the Rest of the World
Borrowers
Loans
Dollar
Assets Assets Loans Loans Deposits
Equity Funding Long-Term Investments
Bonds
Real Money Acc ou nts*
Equity Equity Bank Eq uity Equity Portfolios

Equity Funding

 
Bank Bank Client Bank Term
Loans
Equity Equity Funds Equity Savings

*Asset Managers, Insurance Companies and

Pension Funds

Discount Window Ag enc y De bt Pu rc hase s Ag enc y MBS Pu rchase s Ag en cy De bt Pu rc hase s

Loan Agency Agency Agency

Reserves Reserves Reserves Reserves
` Collateral Debt MBS Debt

11/25/2008 11/25/2008 11/25/2008

(Shadow Bank Backstops)
Federal Responses

Deposit Insurance
(FDIC)

European Sovereign and

Public Credit Transformation

Public Risk Repositories

GSEs, DoE, SBA Fe de ral Gove rnme nt Quasi-Sovereign States Temporary PBGC

Public Risk Repositories

(Tail Risk Absorption)

(Tail Risk Absorption)
FDIC Federal Government MMMF Guarantee
No No No No
Implicit Implicit Implicit MMMF Insurance Implicit
Deposit No Explicit Explicit Explicit Explicit
Insurance Implicit Insurance Insurance Insurance Insurance Premia Insurance
Insurance Explicit Fees Fees Fees Fees
Premia Insurance
Fees

Equity 9/18/2008
*Funded by UST's $50 billion
Exchange Stabilization Fund

The "Cash" Shadow Banking System Deposit Insurance

(FDIC)
Liability Insurance
(Federal Government)
Credit Insurance
(GSEs, DoE, SBA)
Liability Insurance
(Federal Government)
Liability Insurance
(EU Government)
Insurance
Guarantees

Catalogue:, Ste p (7 ): Wholesale Funding

Step (1): Loan Origination Step (2): Loan Warehousing Step (3): ABS Issuance Ste p (4 ): ABS Warehousing Step (5): ABS CDO Issuance Step (6): ABS "Intermediation"
Shadow Bank Liabilities (Shadow Bank "Depositors")
Off-Balance Sheet On -Balance Sheet
ABS Intermediation ABS Intermediation

Short-Term Debt Instruments

Fann ie and Fred die * CMOs Regulated Money Market Unregulated Money Market Direct Money Market Investors
Ultimate Borrowers Agency MBS (Time-Tranched Agency MBS) Agency Discount Notes Intermediaries Intermediaries Corporate Treasure rs Ultimate Creditors

Th e Gove rnme nt-Sp onsore d Shadow Bankin g System

Agency A1
TBA Agency CMO Loans Agency
Loans* Pass- CP
Market MBS Tranches Bills $1 NAV

The GSEs' Cre dit In terme diation Proce ss

Through ABS ABCP Shares

(Public Ori gi nate-t o-Di stribu te Model)

*Conforming mortgages RRs
FH LBs Fann ie and Fred die Federal Government Cash "Plu s" Fun ds Other*
Discount FFELP ABS (Retained Portfolios) Liquidity Puts A1 *ARS, MMMFs

O ff-Balance Sheet
Notes A1 Agency Discount ARSs CP
Munis
AAA MBS Notes TOBs ABCP $1 NAV
Loans Agency Loans*
AA-BBB Private Agency or BDP Shares
Debt ABS
Equity ABS Debt VRDOs RRs
Equity *Conforming student loans 2a-7 MMMFs Other* Bank Treasurers
FHLBs A1 *ARS, MMMFs, as well as A1
SBA ABS (Retained Portfolios) A1 (AAA) ABS Tranches CP MTNs and term ABS CP

Off-Bal ance Sheet

A1 Agency Discount ABCP $1 NAV ABCP $1 NAV
AAA MBS Notes BDP Shares BDP Shares
Loans* Loans A1
AA-BBB Private Agency RRs RRs Short-Term Savings
Equity ABS Debt Other* En han ced Cash Funds Other*

(Short-Term Funding)
*Conforming SBA loans *TOBs and VRDOs A1 *ARS, MMMFs Money Market Portfolios

Wholesale Funding
CP Direct
Short-
ABCP $1 NAV Investmen
Term
BDP Shares $1 NAV
Savings
RRs Shares
"Prime" Homeowners Com merc ial Bank * Subprime, RMBS, CMBS Trading Books SIV, SIV-Lite CP Other* LGIPs

Off-B alance Sheet

Dollar Single-Seller Conduit A1 AAA Offshore (non-2a-7) MMMFs *ARS, MMMFs, as well as A1
CP
1st Lien Loans Deposits AAA AA-BBB A1 MTNs and term ABS CP
Home Loans AA-BBB Repos Loans CP
ABCP AA-BBB LTD MTNs CP ABCP $1 NAV
Loans ABCP

FHCs' Cred it Inte rm ed iation Proc ess

Equity Repo Equity High -Grade CDO s Supers CNs* ABCP $1 NAV BDP Shares
Securities LTD Haircuts Supers *Capital Notes BDP Shares RRs
Households Equity O/C Multi-Seller Conduit* Broker-Dealer* High-Yield CLOs AAA Asset Manager* RRs Ultra-Short Bond Funds Other* Households and Nonprofits
AA-A
Sub prime Home owne rs *FHC affiliate (Warehouse and Term) (LBO Loans) Repo Conduits AA-BBB Arbitrage Conduit ABCP Other* A1 *MMMFs

Off-Balance Sheet
A1 Equity *TOBs and VRDOs CP
Structuring AAA Loans Savings:
Loans 1st Lien AAA Reverse ABCP $1 NAV
Assets Home Loans ABCP and Loans ABCP ABCP ABCP Excess "Equity"
AA-BBB Repos* Me zz anin e CD Os BDP Shares
Syndication AA-BBB ABS Cash
2nd Lien Equity Supers RRs
Equity Fin anc e Comp any * O/C O/C AAA O/C Other* Swee p Acc ou nts
BBB
CP Single-Seller Conduit *FHC affiliated *FHC affiliate Consumer ABS AA-BBB *FHC affiliate *ARS, MMMFs, as well as A1
ABCP (Credit Card ABS) Hybrid Conduits Equity MTNs and term ABS CP

O ff-Bal ance Sheet

Consum ers Liqu idity Puts* BDPs
BDP A1 ABCP $1 NAV
Goods Loans Loans ABCP Long- Short-

The "Inte rnal" Shad ow Ban king Sy stem

AAA BDP Shares

(Priv ate O riginate-to-D istribute Model )

& Loans MTNs Loans AA-BBB ABCP Term Term Loans BDPs
AA-BBB RRs
Services Munis Munis
Equity O/C Equity Other* Nonfinancial Corporates
*FHC affiliate O/C *ARSs, TOBs, VRDOs *ARS, MMMFs
Savings:
Excess "Equity"
Cash

Bu sinesses Europe an Banks Fe deral Rese rve

SIV DW

Off-Balance Sheet
[…]
Invest- C&I AAA TAF
CP Euro
ments Loans AA-BBB Mezz

Eu rope an Bank s' Shadow Banki ng Ac tivites

FX Swaps
Deposits
LTD MTNs ABS Tri-Party Re po Sy ste m TSLF
Supers CNs* Mezz Federal, State TSLF
Nonfinancial Businesses Mu lti-Seller Conduit* Hybrid Conduits *Capital Notes CDO Equity Tri-Party Clearing Banks* and Local Governments PDCF

Wh ole sale Fun ding

(Ov ernight Fundi ng)
Bu sinesses (Warehouse and Term) (ABS Warehouse Conduits) CPFF
Loans TALF
Cash lending Savings:
CRE Reverse ABS AMLF Reserves
Assets CRE Loans ABCP AA-BBB ABCP for Excess "Equity"
Loans Repos Collateral MMIFF
Bonds securities collateral Cash
ML, LLC
Equity O/C O/C Europe an Banks ML II, LLC
*European bank affiliated *BoNY and JP Morgan Chase

Off-Balance Sheet
Private Eq uity Arb itrag e Conduit ML III, LLC
[…]
Portfolio Comp anies LSAPs
AAA Euro
Mezz
ABCP Deposits OMO
LBO ABS
Firms AA-BBB Collatera
Loans Mezz RoW
l
O/C CDO Equity (Foreign Central Banks) Equity

Savings:
Local
FX
Currency
Reserves
Me diu m-Term Instrume nts Age nt Sec uritie s Len ding
Fed eral Governm ent RMBS
Fin anc e Comp any * (1st lien, private label) Cred it H edg e Fu nd* MTNs Cash Reinvestment Accounts

O ff-Balance Sheet
Tax Treasury CP Single-Seller Con duit A1 A1 Se curities Le ndin g*
AAA Loans
Revenues Bonds ABCP AAA Private CP
Loans Repos
BDP AA-BBB MTNs ABCP Cash Cash Securities
Loans Loans ABCP AA-BBB ABS

DBDs' Cre dit Inte rmed iation Proce ss

Equity High -Grade CDO s BDP Collateral Collateral Lent RoW
MTNs
Governments Supers *Broker-dealer affiliate Asse t Manager, RRs (Sovereign Wealth Funds)

(Medi um-Term Funding)

State Gove rnme nts Equity O/C Brok er-D ealer* Subprime ABS AAA Prime Broke r Other* *Done by custodian banks Savings:

Wholesale Fu nding
AA-A
*Broker-dealer affiliate (2nd lien, subprime, HELOCs) Trading Books AA-BBB Trading Book A2 & A3 (AAA) ABS Tranch es *MMMFs, MTNs, term ABS and on an agent basis. Export "Equity"
Tax Tax State A1 Equity Super TOBs and VRDOs Revenue
Bonds Structuring

(Independent Speciali sts: Ori ginate-to-Fun d Model | DBDs: O riginate-to-D istribute Model )
Revenues Revenues Bonds AAA Seniors AAA
and Loans AA-BBB Repos Repos Loans FX
AA-BBB Me zz anin e CD Os Super (A2-A3) Prin cip al Sec urities Len din g Bonds*
Syndication Reserves
Equity Supers Seniors
Industrial Loan Comp any * Haircuts AAA Cash Reinvestment Accounts *Issued to central banks
BBB
Local Governm en ts Broker Sweep Accounts *DBD affiliate CMBS and High-Yield CLOs AA-BBB *Broker-dealer affiliate A1 Se curities Le ndin g* in exchange for investibe FX
Brokerage (LBO Loans) Equity Liqu idity Puts* Ag enc y De bt* CP Long-Term Savings

O ff-Balance Sheet
Brokered
Tax Muni Brokered Clients' A1 ABCP Cash Cash Securities
Loans Deposits Long- Short- Loans
Revenues Bonds Deposits Cash AAA Agency BDP Collateral Collateral Lent Fixed Income Portfolios*

The "External" Shadow Bank ing Syste m

Loans Term Term
Balances AA-BBB Debt RRs
Munis Munis ABS
Equity Equity Other* *Done by real money accounts Debt Term
*Broker-dealer affiliate *ARSs, TOBs, VRDOs *Medium-term debt *MMMFs, MTNs, term ABS and on a principal basis. Savings
TOBs and VRDOs CNs
*Bank, Shadow Bank
and Corporate Debt
Consumer ABS
Standalone Finance Com pany (Card, Auto, Student Loan) Cre dit Hed ge Fund
CP Single-Seller Conduit A1 Long-Term Instrume nts (LTD) Asset Managers*
AAA

Inde pe nde nt Spec ialists' Cre dit Inte rmed iation Proce ss
AAA Cash
ABCP Loans Repos
AA-BBB Long -Te rm D eb t MTNs
Loans Loans ABCP AA-BBB
Equity Private LTD Client Equity Portfolios*
MTNs Loans
Haircuts LTD Equity Funds
Equity O/C Multi-Seller Conduit* Other ABS Agency Structured Public Term
ABS
("Rent-a-Conduit") (Floorplan, Equipment, Fleets) LPFCs LTD Credit Equity Savings

Wh ole sale Fun ding

( Term Debt Funding)
A1 AAA *Mutual Funds, ETFs, Separate Accounts
CP
AAA AA-BBB *Bank and Corporate Debt
Loans ABCP Loans
AA-BBB MTNs A4 and AA-BBB ABS Tranc he s
LTD
Equity CNs* AAA
Captive Financ e Company Ind ustrial Loan Company* O/C *Capital Notes (A4)
Loans
CP *Independent conduit Middle-Market CLOs Pe nsion Fun ds, Insurance Com pan ies*
AA-BBB
ABCP (Loans to SMEs) REITs Cash
Brokered
BDP A1 MTNs
Loans Loans Deposits Struc tured Credit Portfolios*
MTN AAA LTD Pension
Loans […] […]
LTD AA-BBB CDOs Equity Liabilities Debt
Equity Equity Equity HG Super Structured Tranches Term
*Finance company affiliate ABS Senior Credit Equity Savings
Mezz Super *Public and Private Pension Funds, Tranches
ABS Senior and Life and P&C Insurance Companies *Term ABS and CDO
debt and equity tranches

Credit Insurance Credit Insurance

Credit Insurance Credit Insurance
(Mortgage Insurers) (Monolines)

Public Equity
Private Credit Transformation

Mortgage Insurers* Monoline Insurers* Diversified Insurance Co.

Private Risk Re positori es

Alternative Asset M anagers*

Provision of Risk Capital

Credit "Refe renc es"

Loans
( Tail Risk Absorption)

TLGP Cash

Credit He dge s
Equity
MTNs
Debt Credit Credit Credit ABS
LTD Client
MTNs Insu- Premia Insurance Premia Insurance Premia Insurance
Funds
rance
Structured Credit Equity Equity
Equity Equity Equity ABS
Loans
*Unaffiliated with originators! *Unaffiliated with originators! *Unaffiliated with originators! and *Hedge Funds and Private Equity
CDO (only credit exposures)
ABS
(Shadow Bank Backstops)

Equity
Federal Responses

CPFF TALF TSLF/Maiden Lane LLC Maide n Lane III LLC TAF FX Swap s TSLF/ PDCF AMLF MMIFF Maiden Lane II LLC

CP Wareho- CDS Tri-Party Non- Sub-

Reserves AAA Reserves used Reserves on Reserves ABS Reserves $ FX Collatera Reserves ABCP Reserves repo Reserves prime Reserves
ABCP ABS CDOs l MMS ABS

10/7/2008 11/25/2008 3/11/08 and 3/24/2008, respectively 10/11/2008 12/12/2007 12/12/2007 3/11/08 and 3/16/08, respectively 9/19/2008 10/21/2008 11/10/2008

The "Synthetic" Shadow Banking System Counterparty Hedges Warehouse Hedges Counterparty Hedges Warehouse Hedges
Warehouse and
Counterparty Hedges

Synthetic Credit Liabilities

 
Single -Name and Inde x
Corporate CDS CDPCs CPDO s* Sh ort-Term Sy nthe tic Liabilities He dge rs*
Ultimate Borrowers Unfunded Loans, Portfolio Protection* Ultimate Creditors
Protec- AAA ABS Funded
Bond(s) CDS Protec- […]
The "Synth etic " Shad ow Bankin g System

tion and Protection Insured Term

tion Sold Hedges
(Deriv ativ es-Based R isk Repositories)

Equity CDOs Assets Savings

Funded
*Referencing corporate loan indices, etc. Households, Businesses, Governments
Private Risk Rep ositorie s

Protection
Households, Businesses, Governments Single -Name and Inde x Equity Broke r-De alers* *Hedging Motives and the Rest of the World (RoW)
Sovereign CD S Long-Term Sy nthe tic Liabilities Broker-dealer CVA desks, ABS pipeline hedges,
Loans Loans, negative basis traders, real money accounts, etc.
Protec-
Protec- ABS Funded
Assets Bond(s) CDS Counterparty Hedges Warehouse Hedges tion Counterparty Hedges Warehouse Hedges Warehouse Hedges
tion Sold and Protection
Bonds Bought
CDOs
Equity Credit He dge Fund s Sp ecu lators*
Structu re d Cre dit and Loan Unfunded *Market Makers Fun ded Sy nth etic CDO s* Synthetic Exposure s*
CD S In dic es Protec- (Credit-Linked Notes) Unfu nde d Synth etic CD Os* Counte rparty Risks*
Protec-
tion Loans, "Naked" Credit Term
tion Sold AAA AAA AAA
Funded ABS Unfunded Positions Bets Savings
Loan(s) CDS […]
Protec- AA-BBB AA-BBB and Protection
Treasurys
tion Equity Equity Equity CDOs *Speculative Motives
Referencing ABS and single-name CDS *Referencing single-name CDS indices, etc. *Inability to meet Proprietary trading desks, credit hedge funds, etc.
indices, etc. unfunded liabilities, etc.

Source: Shadow Banking (Pozsar, Adrian, Ashcraft, Boesky (2010))