U.S. banks have a $168 billion reason to shun a government program designed to strip toxic loans from their books.
That’s how much lenders could lose if the banks sell loans into the Public-Private Investment Partnership at market prices instead of their balance-sheet valuation, based on estimates in regulatory filings. It would erase the $75 billion that banks were told to raise by the Federal Reserve to withstand a deeper recession.
The imbalance helps explain why the Legacy Loans program, the Federal Deposit Insurance Corp.’s side of PPIP, is “stuck in the rut on the side of the road,” said Walter “Bucky” Hellwig, who helps oversee $30 billion at Morgan Asset Management in Birmingham, Alabama.
FDIC Chairman Sheila Bair herself signaled this week that participation in PPIP may be low, saying lenders may be reluctant to sign up because of “discomfort” that lawmakers could change the rules. She cited legislation that imposes conflict-of-interest restrictions on buyers and sellers.
Banks say they have enough capital after the Fed’s stress tests on 19 lenders this month and will profit by holding their loans until they are repaid at full value. They have little incentive to sell loans at a discount to BlackRock Inc. and other investors that plan to participate in the $500 billion PPIP.
Only If Forced
“Banks that have gone out and raised all this money are not going to be inclined to take that hit,” said Peter Boockvar, an equity strategist at Miller Tabak & Co. in New York. “You really only want to sell a distressed security if you have to.”
Bank of America Corp., the largest U.S. bank, has a $44.5 billion gap between the carrying value of its loans and their fair value, based on data included in a regulatory filing. It’s the widest variation of the top 19 banks, according to data compiled by Bloomberg.
JPMorgan Chase & Co. followed, with a $21.7 billion difference, and Citigroup Inc. was third, at $18.2 billion. All told, the gap at the banks was $168 billion. Some banks included other commitments and receivables with loan valuations.
Scott Silvestri, a spokesman for Charlotte, North Carolina- based Bank of America, couldn’t be reached. Spokesmen for New York-based JPMorgan and Citigroup didn’t return calls for comment.
Bair on May 15 signaled regulators may pressure some banks to sell their assets under programs to cleanse balance sheets. “The troubled assets are still there and the need is still there to clean that up,” Bair said on Bloomberg Television.
The Obama administration unveiled the two-part PPIP on March 23 as a centerpiece of its effort to shore up the financial system by removing illiquid assets. It would be funded by $75 billion to $100 billion from the Treasury’s Troubled Asset Relief Program.
The Legacy Loans program aims to encourage private investors to buy loans, with funding assistance from the Treasury and guarantees from the FDIC. The Legacy Securities program, run by the Treasury and the Fed, would use federal money and funds raised by companies from private investors to buy distressed mortgage-backed securities. They’re considered distressed because they’re backed by assets such as troubled commercial and residential mortgages.
Government officials are still pitching the Legacy Securities program, said Philip Feder, chairman of global real estate at law firm Paul, Hastings, Janofsky & Walker LLP.
“The Fed is urging private equity players to meet with them and to think about ways to participate on the buy side,” said Feder. “Today alone, I heard about three clients that have meetings with either the Fed or the U.S. Treasury to talk about PPIP.”
Treasury Secretary Timothy Geithner originally said that the Treasury would announce the companies that had qualified to participate as funds managers for the program on May 1, and that the auctions could begin shortly afterward. It missed that deadline without comment, then said May 20 that both programs should start within six weeks.
Since PPIP was announced, U.S. banks raised $67.9 billion, Bloomberg data show. The 19 largest lenders sold stock and converted preferred shares to add capital.
“Many banks do not feel the same amount of pressure to get involved because of their ability to raise capital right now,” said James Reichbach, leader of Deloitte LLP’s U.S. banking and securities group. “The program has always been questioned by the market.”
The FDIC intends to target pools of real-estate loans. Mutual funds, pension plans, hedge funds and private investors will be encouraged to bid on the soured assets. Banks would be barred from purchasing their own assets.
“Banks have been able to raise a lot of new capital even before taking more aggressive steps to cleanse their balance sheets, so the incentives to sell may be less,” Bair said on May 27.
President Barack Obama signed a mortgage bill May 20 that included a measure heightening scrutiny for managers of the public-private investment funds and set rules for more disclosure of the debt sales.
Bair said the law may pose a conflict of interest on managers of PPIP funds to ensure securities purchases are “arm’s-length” transactions. She said there “are a couple of factors that remain in play” as the FDIC and Treasury are coordinating how to get the program operational.