Libor fall acid test for cenbanks: fund manager

NEW YORK (Reuters) - The proof of whether central banks' joint effort to alleviate strains in near-term lending markets is working will be if Libor rates fall steeply by January, a money market fund manager said on Wednesday.

The spread of Libor, a key global benchmark for short-term borrowing costs, over the Federal Reserve's fed funds rate would need to narrow to 50 basis points by January, Jill King, vice president and senior portfolio manager with Horizon Cash Management LLC, told the Reuters Investment 2008 Outlook Summit in New York.

The spread of Libor, or the London interbank offered rate, over the federal funds rate, the key overnight lending rate the Federal Reserve sets, is now between 80 and 90 basis points; an unusually wide spread that underscores the extent of global banking system stress.

Libor has been unusually elevated since the credit market crisis erupted in August. High Libor reflects banks' need to hoard cash in the event of more write-downs from losses in riskier assets and worries that some borrowers might not be able to repay loans in overnight money markets.

A narrowing of the spread of Libor over the fed funds rate, once banks' extra need for year-end cash abates, would show that global central banks' joint plan to add joint temporary liquidity to the financial system, announced earlier Wednesday, is working.

"If it (the plan) brings down Libor it is a step in the right direction...to ease our credit concerns," King said.

"You would want to be closer to a 50 basis points spread of Libor over fed funds," by some time in January, to show credit market strains are ebbing and that global central banks' plan to inject liquidity through term repo operations had helped, King said.

A spread of between 10 and 20 basis points of 3-month dollar-denominated Libor over the fed funds rate is the long term historical norm, King added.

One of the trades that King has been looking at with interest, she said, "has been anything Libor based, Libor floaters, with Libor so dislocated and trading at a historical wide spread" to the fed funds rate, she said.  Continued...