Let's Encourage Banks to Dump Bad Assets

[nodular]

An article in Saturday's Wall Street Journal points out that passed credit crises generally ended when investors could see that banks had read their books of toxic assets. This is exactly what is not happening now and this is what worries me. Remember when Treasury Secretary Paul Sun first went to Congress and ask them for $700 billion? It was supposed to be a buy a bad mortgage-based assets from the banks to clean up their books. What happened to that plan?

Recently, federal banking regulators provide a massive bailout to Citibank. "But actions have fallen short of actively moving problem assets off bank balance sheets."


"Let's Encourage Banks to Dump Bad Assets," Wall Street Journal, Saturday/Sunday, December 20-21, 2008, p. A15


Without such movements, an important claim on capital will not be removed, as the banks typically must allocate a sizable portion of their equity capital to support their problematic assets. Until banks substantially cleanse their balance sheets of nonperforming loans and other impaired assets, potential new equity investors will have little confidence that the banking industry can get back to the business of putting fresh capital to work profitably.

Had the bank regulators set a relatively short term expiration date--- perhaps a year--- on the assets guarantee, Citigroup would have a strong incentive to dump the assets at whatever price it would take to find a buyer, or else face the real possibility of additional shareholder losses once the guarantee expired.

Skeptics might respond that there would be no certainty that buyers would emerge no matter how low the price. But here's where creative tax incentives could make the difference. For instance, suppose the Treasury Department offered a one-year program where buyers of distressed real estate assets received a 50% tax credit on any purchase. This would provide buyers with a powerful incentive to act quickly. In short, the US government has the power to play or more constructive role than it has in incentivizing buyers and sellers of troubled assets to strike deals with a sense of urgency.


The US banking industry has had to confront credit cycles of one sort or another every few years -- whether the problems arose from excessive lending to real estate, leveraged buyouts, and/or developing countries. One thing has been clear: almost every credit crunch came to an end once investors detected that the banks were decisively ridding their balance sheets of toxic assets.


For additional information, see my blog potpourri http://random-potpourri.blogspot.com/

[Idealism]

1. The article doesn't attack the true problem

You can't find a market for MBS anymore. No one is buying them, no one is insuring them. When this crisis first happened, the market shrank considerably for these assets, but not all together. At that time, banks and thrifts were getting around $0.22 on the dollar for their assets. Now, you can't even sell them. When you think about the trillions already lost on these investments, potentially recouping 1/4th of those loses won't stave off future help being needed to keep banks afloat, and like I stated, that 1/4th return was back in September right after Lehman went under. There are many reasons why purchasing equity shares in the banks is a better way to go than buying up worthless paper (considering the Fed would be the only buyer- further depressing the price unless set by the government).

[nodular]

4. Well halo, the fact is these bad MBSs are on books of the banks.

Buying them would get them off the books. Then the banks would be able to trust each other, and lending could get started again. Meanwhile, there is considerable value in these MBSs, it's just that nobody can figure out what it is. Obviously with all the defaults, they are worth less than face value. Eventually, the government would sell them and get something back--- maybe at a big loss. It still seems to me that getting the MBSs off the books of the banks would help the banks.

[Idealism]

5. The problem isn't MBS being on bank balance sheets, its the loss they've incurred

By selling them off, presumably the government, you won't recoup hardly any of the trillions lost-- if you could even get a decent appraisal for the value of these near-worthless derivatives.

The problem isn't the balance sheets of these banks, its their liquidity.

Banks won't lend if they are uncertain about their own solvency due to the staggering losses they've had. Take for example Goldman Sachs. This quarter they netted over a $2 billion loss. Pretty bad right?
Now recall that the Fed handed them a $10 billion injection. They lost over $12 billion this past quarter alone. And of the banks, they are actually considered to be better off than most.

Cash injections with direct equity shares is the best way to go.

[nodular]

6. I disagree, Halo. I think there is very significant value in

many of these MBSs. The fact of the matter is, the vast majority of people with mortgages are still paying them and are still current. That is the underlying asset represented by MBSs. I thought I read that 90% of the people paying mortgages are still up-to-date, something like that.

The problem is, no one knows which of these MBSs is bad, everyone knows there are quite a few of them around, and no one knows how many MBSs any particular institution has--- and which of them are bad, etc.

If the Treasury Department had purchased a large number of these, the banks would be better off--- and they would trust each other more. Part of the plan was that the Treasury Department was only going to purchase these things from banks that were not in too bad a shape. This would've forced many other banks into bankruptcy--- which would be a good thing in the long-run.

[sendero]

7. I keep hearing this..

.. what you don't understand apparently is that these securities are LEVERAGED. Only a few percent of these loans have to default to make these instruments VALUELESS.

Stop looking for the rosy scenario, there isn't one. Most of this stuff has a market value of ZERO for a very good reason.

[lligrd]

2. If They Really Wanted To Dump Bad Assets

They'd dump their managers instead of giving them bonuses.

[Mike 03]

3. Yes, but who will buy them? Do you mean write them off completely?

Investors are terrified of these securities. That has become the new problem: no one wants to touch these things.