Tuesday, September 15, 2009

TARP Return On Investment

Opinion piece from Bloomberg:
President Barack Obama did Americans a great service yesterday. He boiled down what’s wrong with his administration’s approach to the financial crisis into a single, symbolic statistic.

Striking a hopeful tone during a speech on the first anniversary of Lehman Brothers Holdings Inc.’s collapse, the president said banks have repaid more than $70 billion of taxpayer money that they had accepted from the government. “And in those cases where the government stakes have been sold completely,” he said, “taxpayers have actually earned a 17% return on their investment.”

This is the kind of math that helped get Lehman into so much trouble. It’s called cherry-picking.

Emphasis added by ENSO (quoting The Who): Meet the new boss....same as the old boss

Let’s be clear: Taxpayers have not earned a 17% return on their investment in companies that have accepted federal bailout money. Real-life investors don’t count only their winners. They count their losers, too, including investments that have declined in value and remain unsold.

A few minutes after that bit of bravado, the president identified the “simple principle” in which all his proposed reforms of the financial regulatory system are rooted: “We ought to set clear rules of the road that promote transparency and accountability.” He’s right. We should. A good place to start would be with the people who crunch numbers for the president’s speeches.

Opportunities Lost

It would be easy to call yesterday’s address by Obama a lost opportunity to champion a crackdown on the banking industry. Yet the best opportunity was lost at the start of his presidency, when his administration decided that no more large financial institutions would be allowed to fail.

Obama said yesterday, “We will not go back to the days of reckless behavior and unchecked excess that was at the heart of this crisis, where too many were motivated only by the appetite for quick kills and bloated bonuses.” Trouble is, with Wall Street’s bonus culture little-changed, we’re well on our way.

“Those on Wall Street,” he said, “cannot resume taking risks without regard for consequences and expect that, next time, American taxpayers will be there to break their fall.” Of course, everyone knows taxpayers will be there to do just that. “History cannot be allowed to repeat itself,” he said. The big worry, though, is we’re already letting it.

Obama said he is calling for “the financial industry to join us in a constructive effort to update the rules and regulatory structure to meet the challenge of this new century.” As he must know, though, the financial-services industry won’t agree to impose strict rules upon itself.

Protections for Banks

Rather than seek to break up banks that already are too big to fail, he has proposed giving them special protections by designating them as “Tier 1 financial holding companies” subject to their own separate oversight council and regulation by the Federal Reserve.

As we have learned, we can’t count on regulators to ensure that too-big-to-fail companies avoid untenable risks. The only way to keep them from threatening the financial system is to break them up before they have the chance. This, however, is something Obama and his advisers are not willing to do.

Obama said his plan “would put the costs of a firm’s failures on those who own its stock and loaned it money.” He had the chance to do this last spring at Citigroup Inc., for instance, and showed no interest. There’s little reason to believe the government would choose a different path the next time around, with or without Obama’s proposed reforms.

Before pushing new regulations, one thing the president could do to restore long-term confidence in the financial system is enforce the rules and laws already on the books. A year after Lehman’s collapse, it remains common knowledge that the asset values of dozens if not hundreds of publicly traded financial companies remain grossly inflated.

Emphasis added by ENSO: Our observation is that in fact there is enforcement of existing rules and laws, it just appears selectively applied. With a few notable exceptions (Corus, Guaranty, BankUnited) most bank failures year to date have been institutions with less than $1 billion in assets. This suggests that regulatory focus is directed at smaller institutions somewhat like an arborist trimming a tree of suckers to try and save rotten limbs.

Come Clean

Rather than trying to convince the public that insolvent banks are healthy, through easy-to-pass “stress tests” and other gimmicks, he should direct their officers and directors to come clean about their numbers or else face prosecution. The risk, of course, is that if the bankers fess up, more banks may fail, bringing fear back to the markets.

That is a chance we must be willing to take. Until we start letting companies that deserve to fail actually fail, we will not have transparency and accountability in our markets. Instead, we’ll be setting ourselves up for exponentially larger meltdowns that in time may outstrip the government’s resources to deal with them.

The unfortunate truth is it probably will take a cataclysmic event of such proportions before our leaders stop cooperating with the financial industry and start pressing for substantive changes. Obama must know this, too.

Based on the past eighteen months performance, we at ENSO believe this will be very slow in evolving. In the meantime, regulatory pressure on smaller institutions will increase substantially. We urge our clients to take every possible measure to get their risk management houses in order.