The market sold off on expiration Friday and didn’t hold in the resistance levels, however it is important to note that the RUT did close above the 400 marker and the INDU was holding fast at 7250 – so it wasn’t a complete wash out. So where are we coming from here…. Well the futures are pointing higher, anything can change.
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Government Hot Potato Plan
(Public-Private Asset Program)
The government has had three plans and all of them have not accomplished the intention of getting to the bottom of the toxic assets. Today – the Treasury will announce the NEW and APPROVE plan to buy the bank’s toxic assets (wasn’t that the intention of Paulson’s TARP?). This time it is a public-private partnership. Before we look at it in detail – let’s be very clear these assets ARE for sale, however banks either do not want to sell them at low prices and/or buyers don’t’ want to buy them – Regardless there IS a market. I make that point because many of the talking heads (including the government officials) talk as if there is NO market, the reality is that there is – they are just not happy with it.So here is the plan, I am going to use Steve Leisman’s example (from CNBC) to explain.
1. A bank wishes to sell $100 billion in toxic mortgage back securities.
2. The FDIC reviews the $100 billion (due diligence?) and auctions them for $84 billion (84 cents on the dollar)
3. The “authorized” fund manager can buy them (on 6:1 leverage) 12 Billion (government puts up half / fund manager puts up half) = that’s 6 billion each. (note the Fund manager is really buying it on 12:1 leverage – since the government is putting up half).
4. The balance of $72 billion is insured by the FDIC.
So let’s look at the Pro’s and Con’s.
Pro’s are IF the fund manager can purchase these at decent prices, they are getting them on HUGE leverage (12:1). So if there are any returns, they could be massive. Let’s just say that the product can later be sold at par value $100 billion. That is a $16 billion return (the fund manager get’s half – that’s $8 billion) or a 130%% return. However, one of the concerns is the recent Congress changing the rules. Some are concerned if they made any profits on these that the government might tax them (90%?) – at the end of the day, if that is even a possibility there is no incentive.
If that is the Pro’s the Con’s are a little more concerning.
1. Massive leverage – this is the reason why were are having the economic problems, we are deleveraging. Having the government and private sector leverage up in toxic assets is just inflating the bubble. The reality is these products (in the example) still have room to lose money. Purchasing them on leverage 12:1 (since the government – tax payer’s are ponying up the balance) – means we haven’t learned our lesson.
2. FDIC is broke – Sheila Bair just two weeks ago mentioned they are pressed for capital and has reached to the Treasury for more money. To expect the FDIC to back the bulk (over 80%) of these toxic assets. They do NOT have the money.
3. FDIC review? – The FDIC failed at measuring the risk of the failed banks and had not managed their capital accordingly. To expect the FDIC to have the expertise to review these complex products – well is quite frankly a joke. Their job seems more of a rubber stamp.
4. The Secret Circle! – Ok this is just my idea. If I am a bank with these toxic assets – I would set up a separate company (fund manager) to buy them from me with on leverage and have the FDIC carry the bulk of the risk. Not that I am, will, or would do that – but these program does set-up a situation where the B of A’s can have a subsidiary or affiliate buy the toxic assets.
5. A market? There is already a market for these products. The banks don’t want to sell them too low because they give up any possible upside. Some would argue they are priced already at rock bottom prices, why would the bank want to sell them now. The buyers are concerned if they are priced too high and if the government would later come back (as they have) and tax them excessively on any profits.
It does seem like a great plan if you are a fund manager, but as a tax payer I think the plan blows – the returns are too small vs. the risk. (remember the FDIC is backed by the tax payer too.)
Think about the taxpayer side of the equation.
You get to put up $6 billion, assume $72 billion in risk (total $78 billion) for a return at par of $8 billion? So the private fund manager only has %6 billion at risk for $8 billion (130%) and we the taxpayer, have $78 billion at risk for $8 billion (10%)? – I think I’ll take the private fund manager side of the trade.
The plan might create buyers (why not – there is very little risk vs. reward), but it may not create sellers (banks may be reluctant). Additionally – it doesn’t mean the risk is gone it is just shifting more debt (and risk) over to the government (or the tax payer).
My vote: Crappy plan for the taxpayer, great plan for a fund manager (except if Congress gets mad and taxes them at 90%)
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Banks rally
Banks are rallying in the pre-market on the Public/Private bailout fund. All the banks stocks are rallying on perception this morning. Expect a gap up at the opening.
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Futures Pre-market
The futures are rallying on the Public/Private bailout plan. The spreads are massive, expect ARB traders to short futures into the opening and buy the cash – thus putting pressure at the opening to the upside. Expect a big gap up.
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Support / Resistance
We pulled off – but could revisit the resistances this morning.
INDU 7000 (7250) 7500 (The INDU futures are looking up big – expect 7500 at the opening. Is that resistance – watch as the market absorbs the news.)
NDX 1150 / 1200 (We will certainly hit the 1200 line this morning.)
SPX 750 / 800 (800 is possibly in the cards this morning.)
RUT 400 / 450 (We are at support 400 – expect a big gap up at the opening.)
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Gold 900+ (Gold is pulling off a little to the 950ish area.)
Silver 13+ (We are in the mid 13s)
OIL 50+ (Oil is at 52 and little action.)
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Conclusion
I think the big plan is just another stab at the problem (4th time) – the reality is that it is NOT letting the prices find a real price – if we allow people to finance them on 12:1 leverage with government debt and the FDIC back them. Senator Gregg (recently asked to be Commerce Secretary) said we NEED to CUT the deficit and cannot continue with these bailout programs. The new deficit and massive bailouts will push the deficit to 80% of the GDP and will permanently put this country on a $1 trillion budget deficit and that is impossible for the long haul. He as far to say if we don’t do something NOW – this nation WILL face bankruptcy. He’s right – if we can’t finance the debt (which we can’t because the Fed is printing money to buy the Treasuries’ printed money) that circle can only last so long.
I think we could get a good boost in the market – but I think many will see into this new improved bailout program as nothing more than leveraging toxic debt (AGAIN!)
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