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The “Geithner PLan”, part 1
The details of the “Geithner Plan” have been released. It has two parts: One to deal specifically with bad loans, the other to deal with other legacy assets (securitized yadda yadda). In this post I will discuss the first part, dubbed the “Legacy Loans Program”.

The Treasury helpfully provides an example, which I reproduce here:

Step 1: If a bank has a pool of residential mortgages with $100 face value that it is seeking to divest, the bank would approach the FDIC.

Step 2: The FDIC would determine, according to the above process, that they would be willing to leverage the pool at a 6-to-1 debt-to-equity ratio.

Step 3: The pool would then be auctioned by the FDIC, with several private sector bidders submitting bids. The highest bid from the private sector – in this example, $84 – would be the winner and would form a Public-Private Investment Fund to purchase the pool of mortgages.

Step 4: Of this $84 purchase price, the FDIC would provide guarantees for $72 of financing, leaving $12 of equity.

Step 5: The Treasury would then provide 50% of the equity funding required on a side-by-side basis with the investor. In this example, Treasury would invest approximately $6, with the private investor contributing $6.

Step 6: The private investor would then manage the servicing of the asset pool and the timing of its disposition on an ongoing basis – using asset managers approved and subject to oversight by the FDIC.

Let’s flesh this out by repeating it 100 times. So say a bank has 100 of these $100 loan pools. And just by way of example, suppose half of them are actually worth $100 and half of them are actually worth zero, and nobody knows which are which. (These numbers are made up but the principle is sound. Nobody knows what the assets are really worth because it depends on future events, like who actually defaults on their mortgages.)

Thus, on average the pools are worth $50 each and the true value of all 100 pools is $5000.

The FDIC provides 6:1 leverage to purchase each pool, and some investor (e.g., a private equity firm) takes them up on it, bidding $84 apiece. Between the FDIC leverage and the Treasury matching funds, the private equity firm thus offers $8400 for all 100 pools but only puts in $600 of its own money.

Half of the pools wind up worthless, so the investor loses $300 total on those. But the other half wind up worth $100 each for a $16 profit. $16 times 50 pools equals $800 total profit which is split 1:1 with the Treasury. So the investor gains $400 on these winning pools. A $400 gain plus a $300 loss equals a $100 net gain, so the investor risked $600 to make $100, a tidy 16.7% return.

The bank unloaded assets worth $5000 for $8400. So the private investor gained $100, the Treasury gained $100, and the bank gained $3400. Somebody must therefore have lost $3600…

…and that would be the FDIC, who was so foolish as to offer 6:1 leverage to purchase assets with a 50% chance of being worthless. But no worries. As long as the FDIC has more expertise in valuing toxic assets than the entire private equity and banking worlds combined, there is no way they could be taken to the cleaners like this. What could possibly go wrong? Don’t yeah love how the Federal Government does business with OUR money!

P.S. Abdul,
Nice seeing you at Indiana Live Casino today.
At least I don’t have to pay COIT tax in Shelbyville.

I don’t even LIKE Ballard, didn’t vote for him, and won’t if he runs for re-election.

But this one seems like a no-brainer, with the exception I noted above; sending Olgen to explain ANYthing.

Some things really are as simple as they seem.
Mary Milz trolls around looking for naysayers. What a freaking surprise. She has no credibility anyway. Ignore her.

This population is growing and the productive class is shrinking. I give the country 15 years, maybe 10???

“And given that there are no maps, because this is all uncharted territory, it will be a wild ride.”

Funny, I know plenty of businesses who didn’t make it over the last 20 years. They were given a map by the government alright..it showed the path to bankruptcy court. “Too big to fail!!” What a joke!! The collapse of this country is right around the corner. Hope you all have prepared accordingly. Now that the summer is here, I see plenty of death and destruction when “Change” doesn’t manifest to people’s liking. Lets see, four dead people in the Indy metro area this past weekend. Four dead cops, another shot, and a dead suspect in Oakland, CA. I have a feeling it is going to be a bloody summer in the good ol’ US of A. By the way, keep an eye on the market bubble that we might see over the next month or so. As soon as the urban riots start, that is the time to short the market.

Should we try to reopen the abdomen of the patient, whose 2002 surgery was so botched the doc lost his license? And had his assistant wildluy claim we were all safer because he used good ink pens to write down his notes?

Revenge is a big byproduct of all this lately. I want to learn from the mistakes–we’ve learned a lot already–but I’m much more focused on the solutions.

And given that there are no maps, because this is all uncharted territory, it will be a wild ride.

The Treasury’s announcement today, they they’ll seek to pool $1 trillion in toxic assets, is a good start. Mind you, this is a trillion in assets, on which billions have already been “earned” as commissions, legal fees paid, lobbying fees paid, etc. All based on a rising home value, across the board.

Much of it never was anything more than “paper profits.”

Add onto all this mess–capital gains taxes that wil not be paid on the realized profits.

Still, it looks like the latest solution might help. We’ll see.