Friday, July 10, 2009

TARP Warrants: Too Cheap or Too Expensive

It depends on who you ask... According to this MarketWatch story, they're too cheap:
A panel that oversees a $700 billion bank bailout package said Friday that financial institutions buying out warrants they gave the government in exchange for capital injections are now buying back those stakes at well below their fair value.

The Congressional Oversight Panel, which is charged with overseeing the Troubled Asset Relief Program, or TARP, said in a report that a group of 11 small banks that have repurchased government warrants in exchange for taxpayer-funded assistance, have bought-out the stakes at 66% of their face value.

The C.O.P., which employed three Harvard University valuation experts to conduct the analysis, said that taxpayers would have received $10 million more had the warrants been sold back to the banks at their face value.

The report argues that liquidity discounts are a key factor for why the warrants were purchased at such low prices. Should a similar discount be a major factor for warrant repurchases at larger institutions buying out government stakes, the shortfall to taxpayers could be as much as $2.1 billion,...

The panel employed three valuation experts from Harvard Business School -- Robert Merton, Daniel Bergstresser and Victoria Ivashina -- to conduct the review....

The report also raises the question of whether banks should be repaying TARP funds at all at this stage in the economic recovery. The C.O.P.'s next report will examine this question.

"Any exit from the TARP system implicates an important policy question: If the banks give up federal support prematurely, will the economy suffer as a result? The panel has not reached a consensus on whether it is wise policy to release banks from the TARP program at this time, but our June report on the bank stress tests raised key questions about whether we know enough about the banks' overall health," the report said.

But according to the Wall Street Journal ("J.P. Morgan to Send Warrants to Market") they're too expensive:
Several Wall Street firms seeking to buy back warrants held by the government as part of the $700 billion financial bailout are complaining that the Treasury Department is demanding too high a price, according to people familiar with the matter.

The Treasury has rejected the vast majority of valuation proposals from banks, saying the firms are undervaluing what the warrants are worth, these people said. That has prompted complaints from some top executives. J.P. Morgan Chase & Co. Chief Executive James Dimon raised the issue directly with Treasury Secretary Timothy Geithner, disagreeing with some of the valuation methods that the government was using to value the warrants.

The inability to agree on a price has already prompted J.P. Morgan to take the next step in a complex process to remove the warrants from the hands of the government. The bank has waived its right to buy the warrants and will allow the Treasury to auction them in the public market, which bank executives say will result in an actual market price.

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