The Discount Window Is Open for Business

Fed meetings The going theory about the Federal Reserve’s discount window has been that there’s a stigma attached to it — that firms that borrow from it are automatically considered troubled, teeing them up for a stock selloff, run on the bank, what-have-you.

It was, in fact, one of the reasons the Fed created the Term Auction Facility, sort of a kindler, gentler version of the discount window. But now that primary dealers can borrow from the window — and Lehman Brothers has, as the Wall Street Journal reported — that theory will be tested. Lehman shares, which have been extremely volatile of late, were down 4.3% in early trade, suggesting that yes, perhaps, the stigma exists (although this could be related to profit-taking after Tuesday’s 46% increase in the stock).

“The bamboozle is on again, the hope being it all papers itself over somehow,” says one private banker, who asked not to be identified. “Just keep saying things are fine on the chance it will become a self-fulfilling prophecy.”

Lehman wasn’t the only one. Goldman Sachs has “tested” the discount window. Morgan Stanley Chief Financial Officer Colm Kelleher said this morning that firm too has “tested” the window. (Tested how? With virus software? With carbon-14 dating methods?)

The news presents somewhat of a dilemma for investors. On one hand, it’s reassuring to know that the large investment-banking firms have access to another source of funding, as Goldman Sachs CEO David Viniar put it on the firm’s earnings conference call Tuesday. But it also can be a source of concern that the firms intend to use this facility.

“The fact that they opened the discount window to the brokers makes me think all the major banks and brokers are going to be OK as far as access to capital,” says Mike O’Rourke, chief market strategist at BTIG Bass Trading. “But some won’t be too enthused, because it’s a sign that there are true problems.”