Sunday, September 21, 2008

Catch-22 on TARP Pricing

(Housing Wire) While market participants conveyed to HW just how close much of the nation’s debt markets came to collapse last week, many were increasingly uncomfortable with the Treasury’s response after having time to consider it. Others were downright apocalyptic in their assessment of the bailout proposal.

“Buying bad assets from solvent institutions is a really bad idea. I think they need to wait for them to go bankrupt,” said one equity fund manager, who asked not to be named. “They had a liquidity crisis on their hands, but that was not the way to fix it.”

Managers of distressed mortgage funds that focus on buying bad mortgages from institutional sellers were more blunt: one fund manager told HW that Treasury officials will “run into the same pricing buzzsaw that everyone else has.”

“I don’t know how this plan solves the pricing issue, or how the Treasury plans to acquire these assets,” said the manager, whose fund is targeting the purchase of roughly $1 billion in distressed mortgages. “And even if they can overcome pricing hurdles, and learn the due diligence side of the business, they’re still in a catch-22 over pricing.”

That catch-22, various sources said, may be the most critical part of the Treasury’s plan — and one that has yet to be discussed. Should the Treasury buy low, in the interest of protecting taxpayers? Such an approach would leave selling institutions in the undesirable position of taking huge losses; one bank executive suggested to HW that “if the Treasury wants to buy everything up at 20 cents, they’d better be ready for a whole lot of bank failures.”

Or should the government buy high, a move that would protect bank capital but put taxpayers in the position of absorbing enormous losses? Neither option is a good one, HW’s sources say. Buy low, and make the credit crisis worse than it already was; buy high, and put the economy on a crash course with Japanese-style inflation.

Also at issue is market manipulation, some insiders told HW on Sunday morning. “Many of these firms have mismarked their books, either because they have no idea what the price is or because they’re hoping asset value will recover,” said one fund manager, who requested anonymity. “Is admitting that books were cooked going to be considered actionable, or is the Treasury going to look the other way?”

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