NATIONALIZATION!

[prole]

 

Coming soon (if not already) to an ATM near you...

 

Rescue of Banks Hints at Nationalization

By EDMUND L. ANDREWS

 

WASHINGTON — Last fall, as Federal Reserve and Treasury Department officials rode to the rescue of one financial institution after another, they took great pains to avoid doing anything that smacked of nationalizing banks.

 

They may no longer have that luxury. With two of the nation’s largest banks buckling under yet another round of huge losses, the incoming administration of Barack Obama and the Federal Reserve are suddenly dealing with banks that are “too big to fail” and yet unable to function as the sinking economy erodes their capital.

 

Particularly in the case of Citigroup, the losses have become so large that they make it almost mathematically impossible for the government to inject enough capital without taking a majority stake or at least squeezing out existing shareholders.

 

And the new ground rules laid down by Mr. Obama’s top economic advisers for the second half of the $700 billion bailout fund, as explained in a letter submitted to Congress on Thursday, call for the government to play an increasing role in the major activities of the banks, from the dividends they pay to shareholders to the amount they can pay executives.

 

“We are down a path that this country has not seen since Andrew Jackson shut down the Second National Bank of the United States,” said Gerard Cassidy, a banking analyst at RBC Capital Markets. “We are going to go back to a time when the government controlled the banking system.”

 

The approximately $120 billion aid package on Thursday for Bank of America — including injections of capital and absorbed losses — as well as a $300 billion package in November for Citigroup both represented displays of financial gymnastics aimed at providing capital without appearing to take commanding equity stakes.

 

Treasury and Fed officials accomplished that trick by structuring the deals like insurance programs for big bundles of the banks’ most toxic assets.

 

Instead of investing tens of billions of taxpayer dollars in exchange for preferred shares in the banks, which has been the Treasury Department’s approach so far with its capital infusions, the government essentially liberated the banks from some of their most threatening assets.

 

The trouble with the new approach, analysts say, is that it is likely to conceal the amount of risk that taxpayers are taking on. If the government-guaranteed securities turn out to be worthless, the cost of the insurance would be much higher than if the Treasury Department had simply bailed out the banks with cash in the first place.

 

Christopher Whalen, a managing partner at Institutional Risk Analytics, said the approach also covers up the underlying reality that the government is already essentially the majority shareholder in Citigroup.

 

“There’s nobody else out there to invest in them,” Mr. Whalen said. “We already own them.”

 

Ben S. Bernanke, chairman of the Federal Reserve Board, outlined the elements of what could become the Obama administration’s new approach to bank rescues in a speech on Monday.

 

Speaking to the London School of Economics, but addressing American audiences as much as European ones, Mr. Bernanke warned that the federal government had no choice but to put more money into banks and other financial institutions if it had any hope of reviving the paralyzed credit markets.

 

Known officially as the Troubled Asset Relief Program, or TARP, the rescue program has infuriated lawmakers in both parties, who complain that Treasury Secretary Henry M. Paulson Jr. has doled out money to banks without demanding accountability in return. Mr. Obama and his top economic advisers convinced enough lawmakers that shoring up the banks was essential to preventing a broader financial collapse, and offered written assurances that they would address the lawmakers’ biggest complaints.

 

But Mr. Bernanke proposed an array of alternative approaches to dealing with the banks in the months ahead, and all of those options reflected a fundamental shift from the original assumptions of the Bush administration.

 

Mr. Paulson had insisted that the government would be investing only in healthy banks, some of which might take over sicker rivals. The Treasury would invest taxpayer dollars in exchange for preferred shares, which would pay a regular dividend and come with warrants that would allow the government to profit from increases in company stock prices.

 

By contrast, Mr. Bernanke proposed various ways to fence off the troubled assets, from nonperforming loans to mortgage-backed securities that investors had stopped buying at almost any price.

 

Mr. Bernanke’s options included guarantees for bank assets, which was at the heart of the rescue packages for Bank of America and Citigroup. Citigroup received its rescue package in November, but it is expected to report additional losses on Friday that could top $10 billion.

 

In both of those deals, the federal government set up a complicated arrangement that would limit the banks’ losses on hundreds of billions of dollars worth of their worst assets.

 

Citigroup’s deal in November covered $300 billion in assets. Citigroup agreed to absorb the first $29 billion in losses. The Treasury agreed to take a second round of losses up to $5 billion, and the Federal Deposit Insurance Corporation agreed to take a third round of losses of up to $10 billion. The Federal Reserve then agreed to lend Citigroup money at low interest rates for the value of the remaining assets.

 

As a second option, Mr. Bernanke and other Fed officials have proposed putting a bank’s impaired assets into a separate new “bad bank.” The effect would be much the same as providing a federal guarantee: the bank would be able to free itself from the need to set aside reserves for extra losses.

 

Both the idea of a government “wrap” and a government-backed “bad bank” have the virtue of protecting the bank’s common stockholders from being wiped out by the government.

 

By contrast, the Bush administration’s original approach to recapitalizing banks — injecting capital in exchange for preferred shares with warrants to convert to common stock — had the effect of squeezing out the common shares. That was because any losses would have to first wipe out common stockholders before the bank could stop paying dividends on preferred shares.

 

“One of the problems with TARP has been a result of the government not wanting to own the banks,” said Fred Cannon, chief equity strategist at Keefe, Bruyette & Woods. “If you get losses, there is less common stock. What we are hopefully moving toward, to the extent that the government guarantees some of the assets, is a structure that protects common shareholders and allows the company to go out and raise common shares through the market.”

 

But a growing number of analysts warned that the approach may be too clever, because it gives policy makers too many ways to conceal true problems at banks and true risks to taxpayers.

 

“What we have is a weird, shadow nationalization,” said Karen Shaw Petrou, managing partner at Federal Financial Analytics, a consulting firm in Washington. “The government does not want to and should not want to own banks. But if they get forced into that situation, they should resolve that situation. Here, what you have is a huge diversified financial services industry with recognized losses and looming losses in every aspect of its operations. There’s nothing straightforward about it.”--from NYT 1/16/09

 

 

[JayB]

Why anyone is worried about the common stockholders being wiped out at this point is beyond me. The company you own stock in implodes, the value of the said stock goes to zero - irrespective of whether the mechanism that brings about the said implosion is bankruptcy, a government takeover in lieu of liquidation, etc. Using government money to prop-up zombie companies and prevent common stockholders from taking a hit is worse than the government simply taking over the company outright.

 

Don't think we'll see the credit markets unfreeze until someone puts a price on the repackaged I/O-negative-amortization-option-ARM laden portfolios that grant the holders the title to condos that rent for a quarter of the monthly mortgage, fields of empty McMansions outside Bakersfield, etc. Ultimately, that'll be the price at which the underlying properties can be bought and rented out for a profit - at least in the case of the stuff that's already been built. The floor on raw or partially developed land is likely to be much lower.

 

Unfortunately - regional banks concentrated their loan portfolios far too heavily in residential construction projects, and the land that they loaned money to builders to develop is going to be find a floor at something like 50-90% less than what the builders paid for it. Combine the residential construction cluster with an equally dire outlook in commercial real estate (equally heavy loan concentrations in regional banks) and you can expect a substantial increase in the number of small and mid-sized banks going under in 2009-2010.

 

 

[Mtguide]

Dear old George; if he hadn't come along, we would've had to invent him. His quote reminds me of the famous phrase from the Vietnam war: "We had to destroy the village in order to save it...". Unfortunately in this case, it's the national economy.

[dberdinka]

Why anyone is worried about the common stockholders being wiped out at this point is beyond me.

 

It seems that the obvious answer is while mutual funds and so forth are invested in these banks so are many of Paulsons very wealthy buddies.

[JayB]

Why anyone is worried about the common stockholders being wiped out at this point is beyond me.

 

It seems that the obvious answer is while mutual funds and so forth are invested in these banks so are many of Paulsons very wealthy buddies.

 

Had a personal beef with the heads of Bear Sterns? I suspect that most of the policy being rolled out at this point has been developed in coordination with the incoming Obama administration, so for this and other reasons, I doubt that cronyism is the best explanation.

 

I actually think that despite my protestation, the article above contains the answers - the government doesn't want to run retail/commercial banks, and don't want to add the bombs in Citi's (and other's) books directly onto the already staggering public tab for the bank rescue operations. Be that as it may, once you start talking about putting public money at risk, the time for fretting about the common stock holders has long since passed, IMO.

 

At some point I think we'll have to add the seize-declare-liquidate-clear mechanism that the RTC used to deal with the S&L debacle in the 80's to the playbook.

 

 

 

 

 

 

 

 

[Peakpimp]

Why do I have the strange feeling that I'm being robbed?

 

Where'd the money go?

[canyondweller]

Why do I have the strange feeling that I'm being robbed?

 

Where'd the money go?

 

Because you were. Get used to it, there are plenty of people that Obama needs to give your money to, as well.

[olyclimber]

I'm waiting for the climbing board bail out package. If we don't get it pretty soon, we'll be changing the board to be a bank.

[prole]

A bank's fine, just don't classify it as anything that makes stuff or employs a lot of blue collar workers. 'Cause then you'll like, you know, have do a bunch of shit to get the money.