They did it again.
The big banks are making money hand over fist, and they've got us to thank for it.
A good grifter can spot an unsuspecting mark in a crowd from a mile away. But these guys are not your typical charlatans or mountebanks. They are artistes.
This was an epic sting.
Back in March, the Treasury Dept. unveiled a program to unburden the nation's biggest banks from their most “toxic” assets, namely, mortgage-backed securities. Under the direction of Treasury Secretary Timothy Geithner, private investors were to be partnered with the government to get bad loans off the banks' books. Everyone, including taxpayers, was supposed to come out ahead on the proceeds from the asset sales.
The idea was to purge the banks' balance sheets of assets that had no discernible value. Theoretically, this would free up bank reserves, unlocking the frozen credit markets.
It looked great on paper. But instead of unloading their toxic assets, the big banks actually bought more. The banks apparently decided that the government's entry into the mortgage security market was simply a guaranteed money-making opportunity.
With the government stepping in to guarantee the value of these previously “worthless” assets, they've actually have become more attractive to investors, including the banks that were so seemingly so anxious to dump them.
The Plan That Partially Misfired
The Public-Private Investment Program (PPIP) was promoted as a means of helping struggling banks by reviving the market for unpackaged loans and mortgage securities that were not backed by government-supported institutions, such as Fannie Mae or Freddie Mac. Under the program, the government-selected asset managers were supposed to raise money from investors and, with additional capital and loans from taxpayers, buy as much as $1 trillion in toxic assets from U.S. banks to free up money for lending.
The plan worked for banks, but it has done nothing to re-stimulate lending.
As any amateur economist will tell you, whenever you create demand for an asset, no matter how impaired its previous worth, its marketable price will increase. This is especially true when the government (read taxpayers) guarantee the long-term value of the asset.
According to data just released, Charlotte, NC-based Bank of America along with Citigroup, Morgan Stanley and Goldman Sachs Group, Inc., all based in New York, added a combined $2.74 billion of the debt to their short-term trading assets during the third quarter. This represents a 13 percent jump by the banks over their second quarter acquisition of these “toxic” assets.
Since March, with the prospect of buyers and a government guarantee, the value of these securities has nearly doubled. The rally in prices has been fueled in large measure by traders — most on behalf the big banks — stepping in before the buying program got off the ground.
The rally was boosted further by investors seeking riskier fixed-income assets to offset record low yields on Treasuries and by the increasing stabilization of the housing market.
Why Prices Soar
So far, the program has about $6 billion of equity capital from private investors, which the government has matched. The Treasury also provided $12 billion of debt capital, bringing the funds' purchasing power to $24 billion. At this point, neither the Treasury nor the funds have disclosed how much of this debt has been purchased.
The value of these once toxic assets could slump. But with the government not only guaranteeing their value along with continued implied assurance that these financial institutions still are “too big to fail,” it's a sweet deal the banks just couldn't pass-up.
You can't blame them.
Whenever the government says it's going to buy something in the securities market, the prices invariably rise. It was like hanging out raw meat for the wolves. The government might as well have hung out a sign that said “free money.”
Cynical observers may conclude that the banks colluded with the government to once again bilk the taxpayers. After all, it was the big bank CEOs who huddled with Geithner to gin up this program.
At this point, there is no hard evidence to prove this is what actually happened. Given their record of backroom deals and market manipulation, it's not an unreasonable conclusion.
John Cohn is a senior partner in the Globe West Financial Group based in West Los Angeles. He may be contacted at www.globewestfinancial.com
