Big Banks Pull off The Ultimate Bait & Switch

[Rajiv]

Big Banks Pull off The Ultimate Bait & Switch

We’re not quite as healthy as we thought we were. Oops. (WSJ)

J.P. Morgan Chase Chief Executive James Dimon said…that March was a little tougher than the first two months of the year….Bank of America…CEO Kenneth Lewis also said that March had been a tougher month for his bank. [Convenient that they dumped this on Friday afternoon, and at the close of a very good week.]

Readers may recall that a few weeks ago, those two CEOs—along with Citi’s Vikram Pandit—said the first two months of the year had been very good:

Pandit, March 10th: “We are profitable through the first two months of 2009 and are having our best quarter-to-date performance since the third quarter of 2007.”

Dimon, March 11th: “Jamie Dimon, the chief executive of JPMorgan Chase, said Wednesday that the bank was profitable in January and February…”

Lewis, March 12th: “We have been profitable for the first two months of the year,” Lewis told reporters after a speech in Boston today.

This was possibly the most nakedly self-serving bullshit the big bank CEOs have offered to date. (”bullshit” being a technical term of course, see Harry Frankfurt)

By February, it was understood that the big banks are all insolvent, certainly Citi and BofA. To deal with them, consensus among the cognoscenti was finally tending to a proper recapitalization: wiping out shareholders and forcing losses onto creditors via debt-for-equity swaps. Call it nationalization, call it preprivatization, call it FDIC receivership, it was clear that losses had to be recognized and by those to whom they properly belong: investors across the banks’ capital structure.

But no one really wanted to do this, not in Congress and certainly not in the Obama administration, where Timmy Geithner has made clear that his priority isn’t a cleansed banking sector, it’s a privately-owned one. For obvious reasons the banks don’t like this solution either. So they offered up their self-serving b.s. regarding January and February, buying just enough time for Congress/Bernanke to badger FASB into changing mark-to-market rules and for Geithner to roll out his private-public partnership plan.

Now whatever losses the banks can’t hide with revised accounting treatments, they can simply fob off on taxpayers via the partnerships. They got what they always wanted: A bad bank! An entity that will actually absorb losses from the asset side of the balance sheet! Shareholders and creditors don’t have to worry about further writedowns, not the ones that can’t be hidden anyway. Taxpayers will pick up the check!
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[GRG55]

Re: Big Banks Pull off The Ultimate Bait & Switch

Big Banks Pull off The Ultimate Bait & Switch

A few words from David Kotok...

"...As a money manager for our clients, the Cumberland firm will look at PPIP and may use it on behalf of clients after we have reviewed an official form of an offering document. As a private citizen concerned about my country and its policy direction, I think this reeks and stinks."

PPIP: Heads or Tails?

By David Kotok - March 29th, 2009, 9:07AM

Dear Reader: Please give me 8 minutes to explain the $1.1 trillion federal government Public-Private Investment Program (PPIP).

Start here with this simple example. It’s a coin toss. Heads you win $100; tails you get nothing. How much would you pay to play? You can play as many times as you wish. Answer: not more that $50.

For less than $50, you would play as often as you can. $50 is your breakeven; only a fool would pay more.

Now add Tim Geithner as your partner. He matches what you invest but you, and only you, get to set the price to play. Answer: you put up no more than $25 as the investor and that means he matches your number. At under $25 you play as much as you can.

$25 is your breakeven as the investor; $50 is still the breakeven for the coin flip.

Now let’s add some of the leverage from the FDIC.

Suppose that the FDIC will loan you $40 as a non-recourse loan.

You and Geithner each put up $5 for a total of $10 and, adding in the loan money, you pay $50 to play, just as before. If you get heads, you pay off the loan of $40, and you and Geithner split the rest. That means you get $30 for your $5 and so does he.

Remember, you set the price to play. If you get tails you get nothing and lose $5, Geithner loses $5, and the FDIC loses $40.
Now suppose we have an auction to decide who will play.

The highest bidder wins the right to play as many times as he wishes. With this example the breakeven price rises from $50 to $70. At $70 you put up $15; Geithner puts up $15 and the FDIC still loans $40. Half the time you will win $100 and use $40 to pay off the FDIC, leaving $60 for you to split with Geithner. You will get $30 back for each $15 you play, when you win. The other half of the time you will get zero, since it’s still a coin flip risk.

Notice that the price to play went from a $50 breakeven to a $70 breakeven. This happened while the odds remained a 50-50 coin flip.

Also notice that the leverage ratio was low when you put up $15, Geithner put up $15, and the FDIC put up $40. Under the Treasury PPIP plan the leverage ratio can go as high as 6 to 1. Using the full 6:1 leverage ratio, a coin-flip breakeven point would be about $3.57 for the investor.

Here is how I get that number. You put up $3.57; Geithner puts up $3.57; the total investor’s equity is $7.14. The FDIC loans 6 times $7.14, or $42.84. Total price to play is $49.98. Let’s call it $50, which is the amount to play each time.


Notice that the breakeven auction price is now almost $93 each time. Remember you, as the private investor, are the one who sets the auction price, because you are the only one deciding the bidding. Geithner is matching you and the FDIC is loaning 6 times the equity.

The leverage and the risk transfer have raised the investor’s breakeven from a $50 auction price, if you did this all by yourself and without any leverage, to a $93 auction price when leverage is fully deployed. The risk of winning or losing is still a coin flip.

Let’s substitute a toxic asset on a bank’s balance sheet for the coin.

Instead of a 50-50 coin flip, with PPIP we have a toxic piece of a mortgage-backed debt instrument that has an uncertain value. If we use PPIP, aren’t we really inflating the price artificially? It seems to me the answer is yes.

How can we adjust for this risk transfer that allows the auction breakeven price to rise? That answer lies in how much the FDIC will charge to make the non-recourse loan. If the FDIC charges enough, it will bring the auction price back to $50 and restore the deal to neutrality. If the FDIC charges more, it will bring the price below what it would be without the leverage.

But if the FDIC underpriced the loan cost, it would then have subsidized the deal and allowed the auction price to rise. That means the seller of the toxic debt instrument got more than it was worth and the investor made a profit because of the FDIC.

Some of the risk of payment on that instrument transferred to the FDIC. That means it transferred to the FDIC insurance fund, which means it transferred to every insured deposit in every bank that pays an insurance premium into the fund. That means the depositor may be getting a lower interest rate on that deposit than he otherwise would get.

That is PPIP.

Some Questions. Will this process set a true “market price” for these toxic assets or are we using a gambler’s pricing mechanism?

Has Geithner been transparent about this risk transfer to the FDIC? What will the FDIC charge investors when it assumes the 6:1 leverage risk? Will it price risk fairly or will it grant massive subsidy to banks?

Dear reader: you decide if this is a good thing or a bad thing. You decide if this is how it was presented to you. You decide if this is a sound policy solution for the US banking system or if you believe that our government has taken “moral hazard” to a new level with pee-pip?

For more details on PPIP see this weekend’s issue (March 30) of Barron’s and the columns on PPIP by Jonathan Laing and Andrew Bary. They start on page 25 and offer an investor’s view. As a money manager for our clients, the Cumberland firm will look at PPIP and may use it on behalf of clients after we have reviewed an official form of an offering document. As a private citizen concerned about my country and its policy direction, I think this reeks and stinks.

David R. Kotok, Chairman and Chief Investment Officer, email: david.kotok@cumber.com

[we_are_toast]

Re: Big Banks Pull off The Ultimate Bait & Switch

A few words from David Kotok...

"...As a money manager for our clients, the Cumberland firm will look at PPIP and may use it on behalf of clients after we have reviewed an official form of an offering document. As a private citizen concerned about my country and its policy direction, I think this reeks and stinks."

PPIP: Heads or Tails?

By David Kotok - March 29th, 2009, 9:07AM

Dear Reader: Please give me 8 minutes to explain the $1.1 trillion federal government Public-Private Investment Program (PPIP).

Start here with this simple example. It’s a coin toss. Heads you win $100; tails you get nothing. How much would you pay to play? You can play as many times as you wish. Answer: not more that $50.

For less than $50, you would play as often as you can. $50 is your breakeven; only a fool would pay more.

Now add Tim Geithner as your partner. He matches what you invest but you, and only you, get to set the price to play. Answer: you put up no more than $25 as the investor and that means he matches your number. At under $25 you play as much as you can.

$25 is your breakeven as the investor; $50 is still the breakeven for the coin flip.

Now let’s add some of the leverage from the FDIC.

Suppose that the FDIC will loan you $40 as a non-recourse loan.

You and Geithner each put up $5 for a total of $10 and, adding in the loan money, you pay $50 to play, just as before. If you get heads, you pay off the loan of $40, and you and Geithner split the rest. That means you get $30 for your $5 and so does he.

Remember, you set the price to play. If you get tails you get nothing and lose $5, Geithner loses $5, and the FDIC loses $40.
Now suppose we have an auction to decide who will play.

The highest bidder wins the right to play as many times as he wishes. With this example the breakeven price rises from $50 to $70. At $70 you put up $15; Geithner puts up $15 and the FDIC still loans $40. Half the time you will win $100 and use $40 to pay off the FDIC, leaving $60 for you to split with Geithner. You will get $30 back for each $15 you play, when you win. The other half of the time you will get zero, since it’s still a coin flip risk.

Notice that the price to play went from a $50 breakeven to a $70 breakeven. This happened while the odds remained a 50-50 coin flip.

Also notice that the leverage ratio was low when you put up $15, Geithner put up $15, and the FDIC put up $40. Under the Treasury PPIP plan the leverage ratio can go as high as 6 to 1. Using the full 6:1 leverage ratio, a coin-flip breakeven point would be about $3.57 for the investor.

Here is how I get that number. You put up $3.57; Geithner puts up $3.57; the total investor’s equity is $7.14. The FDIC loans 6 times $7.14, or $42.84. Total price to play is $49.98. Let’s call it $50, which is the amount to play each time.


Notice that the breakeven auction price is now almost $93 each time. Remember you, as the private investor, are the one who sets the auction price, because you are the only one deciding the bidding. Geithner is matching you and the FDIC is loaning 6 times the equity.

The leverage and the risk transfer have raised the investor’s breakeven from a $50 auction price, if you did this all by yourself and without any leverage, to a $93 auction price when leverage is fully deployed. The risk of winning or losing is still a coin flip.

Let’s substitute a toxic asset on a bank’s balance sheet for the coin.

Instead of a 50-50 coin flip, with PPIP we have a toxic piece of a mortgage-backed debt instrument that has an uncertain value. If we use PPIP, aren’t we really inflating the price artificially? It seems to me the answer is yes.

How can we adjust for this risk transfer that allows the auction breakeven price to rise? That answer lies in how much the FDIC will charge to make the non-recourse loan. If the FDIC charges enough, it will bring the auction price back to $50 and restore the deal to neutrality. If the FDIC charges more, it will bring the price below what it would be without the leverage.

But if the FDIC underpriced the loan cost, it would then have subsidized the deal and allowed the auction price to rise. That means the seller of the toxic debt instrument got more than it was worth and the investor made a profit because of the FDIC.

Some of the risk of payment on that instrument transferred to the FDIC. That means it transferred to the FDIC insurance fund, which means it transferred to every insured deposit in every bank that pays an insurance premium into the fund. That means the depositor may be getting a lower interest rate on that deposit than he otherwise would get.

That is PPIP.

Some Questions. Will this process set a true “market price” for these toxic assets or are we using a gambler’s pricing mechanism?

Has Geithner been transparent about this risk transfer to the FDIC? What will the FDIC charge investors when it assumes the 6:1 leverage risk? Will it price risk fairly or will it grant massive subsidy to banks?

Dear reader: you decide if this is a good thing or a bad thing. You decide if this is how it was presented to you. You decide if this is a sound policy solution for the US banking system or if you believe that our government has taken “moral hazard” to a new level with pee-pip?

For more details on PPIP see this weekend’s issue (March 30) of Barron’s and the columns on PPIP by Jonathan Laing and Andrew Bary. They start on page 25 and offer an investor’s view. As a money manager for our clients, the Cumberland firm will look at PPIP and may use it on behalf of clients after we have reviewed an official form of an offering document. As a private citizen concerned about my country and its policy direction, I think this reeks and stinks.

David R. Kotok, Chairman and Chief Investment Officer, email: david.kotok@cumber.com

I'm having some trouble with this analogy. The value of the trash is not a 50-50 coin flip.

Let's say the banks payed $100, they need $80 to stay solvent, and the mark to market is about $30 (these are numbers being tossed around on the net). Everything depends on what I really believe the trash is worth. If I believe it's worth $30, no matter how much leverage I use, and no matter who provides the money, I'm still going to loose my investment if I pay more than $30, and the banks can't sell it for less than $80.

Based on this, I would say the auctions are going to fail if it weren't for one reason. There are now so many way's the banks with the trash can game the system, it's almost as if the system had no intention of a free auction to determine the price of the trash. It seems more and more like the sole purpose is to simply let the banks dump their trash on the government at the price that makes them solvent. My guess is we'll be seeing a lot of stories in the coming months about who actually bought the trash and their links to the banks that sold it to them.

[Glenn Black]

Re: Big Banks Pull off The Ultimate Bait & Switch

The true value of a MBS is unknown. Might as well make it a 50/50 coin toss.

If the FDIC is involved, where does the FDIC get funded by? While it's backed & guaranteed by the US Gov, I believe the banking industry pays premiums to FDIC based on the amount insured. Sheila is talking about adjusting the premium based on systemic risk, size, who we like, friends of Timmy, and who knows what.

Might they, could they, would they set it up so the banks end up paying for most of it in the end?

Treasury bets with the house on an equal basis, and the house will ensure they come out OK.

It all depends on what FDIC does with those premiums.

Another thing, not everybody is an FDIC insured business. To enter a bid, is it a closed game where only FDIC insured entities can bid? If hedge fund buys Billy Bob's Bank (FDIC insured), can dark pool hedge fund bid through their subsiduary? I assume that Billy Bob's bank has minimal assets and accounts, and therefore pays minimal FDIC premiums, but can bid many times as a shill for the hedge fund.

Be careful Timmy. You're playing with banksters, and they play for keeps.

[ax]

Re: Big Banks Pull off The Ultimate Bait & Switch

[quote=GRG55;87388]A few words from David Kotok...

"...As a money manager for our clients, the Cumberland firm will look at PPIP and may use it on behalf of clients after we have reviewed an official form of an offering document. As a private citizen concerned about my country and its policy direction, I think this reeks and stinks."

PPIP: Heads or Tails?

By David Kotok - March 29th, 2009, 9:07AM

Dear Reader: Please give me 8 minutes to explain the $1.1 trillion federal government Public-Private Investment Program (PPIP).

Start here with this simple example. It’s a coin toss. Heads you win $100; tails you get nothing. How much would you pay to play? You can play as many times as you wish. Answer: not more that $50.

For less than $50, you would play as often as you can. $50 is your breakeven; only a fool would pay more.

Now add Tim Geithner as your partner. He matches what you invest but you, and only you, get to set the price to play. Answer: you put up no more than $25 as the investor and that means he matches your number. At under $25 you play as much as you can.

$25 is your breakeven as the investor; $50 is still the breakeven for the coin flip.

Now let’s add some of the leverage from the FDIC.

Suppose that the FDIC will loan you $40 as a non-recourse loan.

You and Geithner each put up $5 for a total of $10 and, adding in the loan money, you pay $50 to play, just as before. If you get heads, you pay off the loan of $40, and you and Geithner split the rest. That means you get $30 for your $5 and so does he.

Remember, you set the price to play. If you get tails you get nothing and lose $5, Geithner loses $5, and the FDIC loses $40.
Now suppose we have an auction to decide who will play.

The highest bidder wins the right to play as many times as he wishes. With this example the breakeven price rises from $50 to $70. At $70 you put up $15; Geithner puts up $15 and the FDIC still loans $40. Half the time you will win $100 and use $40 to pay off the FDIC, leaving $60 for you to split with Geithner. You will get $30 back for each $15 you play, when you win. The other half of the time you will get zero, since it’s still a coin flip risk.

Notice that the price to play went from a $50 breakeven to a $70 breakeven. This happened while the odds remained a 50-50 coin flip.

Also notice that the leverage ratio was low when you put up $15, Geithner put up $15, and the FDIC put up $40. Under the Treasury PPIP plan the leverage ratio can go as high as 6 to 1. Using the full 6:1 leverage ratio, a coin-flip breakeven point would be about $3.57 for the investor.

Here is how I get that number. You put up $3.57; Geithner puts up $3.57; the total investor’s equity is $7.14. The FDIC loans 6 times $7.14, or $42.84. Total price to play is $49.98. Let’s call it $50, which is the amount to play each time.


Notice that the breakeven auction price is now almost $93 each time. Remember you, as the private investor, are the one who sets the auction price, because you are the only one deciding the bidding. Geithner is matching you and the FDIC is loaning 6 times the equity.

The leverage and the risk transfer have raised the investor’s breakeven from a $50 auction price, if you did this all by yourself and without any leverage, to a $93 auction price when leverage is fully deployed. The risk of winning or losing is still a coin flip.

Let’s substitute a toxic asset on a bank’s balance sheet for the coin.

Instead of a 50-50 coin flip, with PPIP we have a toxic piece of a mortgage-backed debt instrument that has an uncertain value. If we use PPIP, aren’t we really inflating the price artificially? It seems to me the answer is yes.

How can we adjust for this risk transfer that allows the auction breakeven price to rise? That answer lies in how much the FDIC will charge to make the non-recourse loan. If the FDIC charges enough, it will bring the auction price back to $50 and restore the deal to neutrality. If the FDIC charges more, it will bring the price below what it would be without the leverage.

But if the FDIC underpriced the loan cost, it would then have subsidized the deal and allowed the auction price to rise. That means the seller of the toxic debt instrument got more than it was worth and the investor made a profit because of the FDIC.

Some of the risk of payment on that instrument transferred to the FDIC. That means it transferred to the FDIC insurance fund, which means it transferred to every insured deposit in every bank that pays an insurance premium into the fund. That means the depositor may be getting a lower interest rate on that deposit than he otherwise would get.

That is PPIP.

Some Questions. Will this process set a true “market price” for these toxic assets or are we using a gambler’s pricing mechanism?

Has Geithner been transparent about this risk transfer to the FDIC? What will the FDIC charge investors when it assumes the 6:1 leverage risk? Will it price risk fairly or will it grant massive subsidy to banks?

Dear reader: you decide if this is a good thing or a bad thing. You decide if this is how it was presented to you. You decide if this is a sound policy solution for the US banking system or if you believe that our government has taken “moral hazard” to a new level with pee-pip?

For more details on PPIP see this weekend’s issue (March 30) of Barron’s and the columns on PPIP by Jonathan Laing and Andrew Bary. They start on page 25 and offer an investor’s view. As a money manager for our clients, the Cumberland firm will look at PPIP and may use it on behalf of clients after we have reviewed an official form of an offering document. As a private citizen concerned about my country and its policy direction, I think this reeks and stinks.

David R. Kotok, Chairman and Chief Investment Officer, email: david.kotok@cumber.com

I've seen Kotok a few times. Not unlike Touleb or Roubini, he's always defending his pessimism to MSM interviewers. But his comments about exploring the PPIP for his clients' gain while being personally disgusted with the plan don't sit well. Reminds me a bit of a converstion I recently had with my brother who is a large cog in the wheel of a huge conglomerate. I had pointed out that Pandit buying Citi stock at 97 cents and then leaking a memo about the company's profitability seemed criminal, given the $45 billion they had just taken. He simply said, why wouldn't he do it?