Jul
12
Bailout? Let them Fail
July 12, 2009 | 1 Comment
Bailout [beyl-out] :To transfer (property) to another for a special purpose but without permanent transference of ownership.
Robert Clifton, VP, PTREIA – 407.2348
North Star Properties of NC, INC
Too big to fail? I don’t even like the implication of that. That just sounds wrong on so many levels. Plus, what a ridiculous statement. The Roman Empire “failed”. This planet will “fail”. Yeah, I know what they’re getting at. But, if they really are that big, and they are, what will $700 billion do? More on that later. How did they get “too big”?
On the ground level banks gave mortgages to anyone who could fog a mirror. Hey, with no prudent standards to get in the way you can loan LOTS of money. Then they sell the mortgages up the food chain after a few payments (almost all interest). Gee whiz, even people who have trouble fogging the aforementioned mirror will send in the first few payments. Oh, I can’t wait to get in to the upper food chain. They, “the most prestigious of the banking industry” really kick it up a notch or two. But back to the lower tier. So, if they pass the paper along after a few pure profit payments how do they get in trouble? Well…. Either they get too cocky & just can’t bear to resist reaping just a few more payments; or the market above is already flooded with them; probably a combination of both. At any rate, they are sitting on them and, nah, can’t be, who would have thought, after the adjustable rate changed upward to the tune of 2%…..twice….in two years that guy at 112 In Your Dreams Lane defaulted on his June payment when it rose from a barely affordable $1200.00 per month to $1715.00. (Who would have predicted the direction, right? Ohhh, well when rates are at all time bottoms I guess maybe we could have guessed they ONLY HAD one way to go….nah.. I guess they could have gone to MINUS 2% and WAMU would be paying YOU to live in their house). No problem, he remembers the WAMU guy saying, if the rate gets too high we will just refi you out of it to a conventional fixed rate. But golly, he doesn’t have the $5000.00 in closing costs to make that happen. If he did he would have made that June payment. And, there’s the other thing. Turns out that his $175,000 tract built home was kind of inflated in value. The mega builder could get away with that since he teamed up with a lender/appraiser when he broke ground…well plowed ground…with the giant Tonka Toy earthmover bearing the bumper sticker “A Tree Left Standing Means This Puppy Would Have To Alter Course”. And then there’s the thing about rolling the $5000.00 closing cost (fees are us because you can’t negotiate a better deal with your credit score elsewhere) into the mortgage balance. To quote Marshall “dead is dead”.
How many of these guys are there out there? Well let’s check in with WAMU & Wachovia for a few fact morsels lifted off the web.
Like others at now-struggling financial institutions, WaMu pushed at the height of the housing boom into riskier loans to less creditworthy buyers. The bank was the second-biggest provider of payment-option adjustable-rate mortgages, behind Wachovia, with $54 billion held in its portfolio in the first quarter…” Option ARMS let borrowers skip part of their payment and add that sum to the principal, so that when housing prices fall, as they have since 2006, borrowers might end up owing more than the residence is worth.
WaMu’s $307 billion in assets outstrip the $40 billion affected in the 1984 failure of Continental Illinois National Bank, until now the largest US bank failure. Earlier this year, IndyMac failure involved $32 billion in assets.
Fears of mounting losses on Wachovia’s $122 billion in option adjustable-rate mortgages helped push the Charlotte, North Carolina-based company’s shares down by 64 percent this year. (it’s about 98% today)
So, that’s how you get so big on their level. They made a LOT of loans at high returns. They took mind boggling risks to attain short term profits; obviously not worrying a bit about the future. They made billions, and cashed the checks. And now, Wachovia’s stockholders have shares valued at under $2.00 rather than the $51.00 that it was last year. Yep you’re big alright….until the perpetual motion machine succumbs to friction, or gravity in their case.
Who let them do that stuff? Who let them be so reckless with stockholder’s money as well as other banks that financed them? Well the government did. Why would the government do that? Well, the banking industry lobbied for less controls so they could pursue the free market system with all the zeal they could muster and it was granted. I guess we could blame the government. But frankly the government will let us all do a lot of things. Most of us exhibit some self control; some caution; some responsibility. But, alas, it’s easy to get carried away when you use other peoples’ money.
Side Trip:
One of those rules they “relaxed” begs for a comment here because it invites deception to the extent of reducing a company’s quarterly report to a completely useless fairy tale. Whoever allowed this should be stripped of all credentials they supposedly have. I am referring to a change in accounting rules (GAAP) that allows certain closely held deals to be omitted from a company’s balance sheet. Basically, you can run up a huge debt, set up a subsidiary company & park it on that company’s books instead of your own. So, stockholders can’t tell how much you owe and Banks you are trying to borrow from can’t tell how much liability you already have. That’s what happened at Enron. They had dozens of these shell companies. The pyramid of hidden debt collapsed on itself before anyone knew there was a problem.
Back to the story. Now for a glimpse into the affairs of the most prestigious breed of them all; The Investment Bankers. Lehman, Bear Stearns, Goldman Sachs, etc. Now these guys got creative beyond the wildest dreams of any of the neighborhood banks. They took stinky mortgages and packaged them into securities known as derivatives among other things. They purposefully made them so opaque that they defied accurate valuation. But, for a price, you can get someone to claim to have evaluated them. And evaluate them they did. Rating them like bonds, AAA, A1 etc. Then they insured them, sort of. (AIG) Nice touch huh? With ratings & insurance in place they were able to market them to things like pension funds; which are obligated to seek out only SAFE investments! Please don’t lose sight of the big picture. They knew exactly what they were doing every step of the way. Around here we call it fraud. Let’s not forget these guys are at the top of the food chain. “In the know” and “inside information” are an understatement. Oh yeah, they made tens of billions of dollars and cashed the checks.
Now, you have probably guessed that I’m working toward a NO Bailout plea here. Bear with me for a few more facts. We need some eye popping numbers here as well as an explanation as to why I alluded to the insurance part as “sort of”.
“FBI investigates potential fraud at 26 companies including, Fannie Mae, Freddie Mac, Lehman Brothers and AIG.”
“In December 2007, the Bank for International Settlements reported derivative trades tallying in at $681 trillion – ten times the gross domestic product of all the countries in the world combined. Somebody is obviously bluffing about the money being brought to the game,…”
“Bear Stearns helped fuel the explosive growth in the credit derivative market, where banks, hedge funds and other investors have engaged in $45 trillion worth of bets on the credit-worthiness of companies and countries. Before it collapsed, Bear was the counterparty to $13 trillion in derivative trades.”
“The Fed had been pushing Wall Street firms for months to set up a new clearinghouse for credit-default swaps. The idea was to provide a more orderly settlement of trades in this opaque, diffuse market with a staggering $55 trillion in notional value, and, among other things, make the market less vulnerable if a major dealer failed. But that hadn’t gotten off the ground. As a result, nobody knew exactly which firms had made trades with Lehman and for what amounts.”
“When the smartest guys in the room designed their credit default swaps, they forgot to ask one thing – what if the parties on the other side of the bet don’t have the money to pay up? Credit default swaps (CDS) are insurance-like contracts that are sold as protection against default on loans, but CDS are not ordinary insurance.
Insurance companies are regulated by the government, with reserve requirements, statutory limits, and examiners routinely showing up to check the books to make sure the money is there to cover potential claims. CDS are private bets, and the Federal Reserve from the time of Alan Greenspan has insisted that regulators keep hands off.”
“CDS thus resemble insurance policies, but there is no requirement to actually hold any asset or suffer any loss, so CDS are widely used just to speculate on market changes. In one blogger’s example, a hedge fund wanting to increase its profits could sit back and collect $320,000 a year in premiums just for selling “protection” on a risky BBB junk bond. The premiums are “free” money – free until the bond actually goes into default, when the hedge fund could be on the hook for $100 million in claims. And there’s the catch: what if the hedge fund doesn’t have the $100 million? The fund’s corporate shell or limited partnership is put into bankruptcy, but that hardly helps the “protection buyers” who thought they were covered.”
Look. I could go on forever about the questionable dealings these guys do on this level. Suffice to say it is a can of worms that makes $700 billion look like petty cash. And that’s part of my point. You can’t bail something like this out. It has a life of its own.
So here’s my plan. Actually two plans. Take your choice.
The only thing Paulson & I agree on is that “we must do something.”
Let them fail. They have already done irreversible damage to pension plans, local governments, employees and stockholders. We weren’t going to help those guys anyway. Don’t throw good money after bad. Plus, I hate the thoughts of them enjoying the ultimate ride on the free enterprise system and then socializing their loses after they milked the cow dry.
If you feel compelled to socialize an entire industry then do it Warren Buffett style. I promise you that when he put up $5 billion to buy a stake in Goldman Sachs he knew exactly what it was worth. Everyone knows our government is the last place to find a good businessman. Last I heard they were touting the plan as a good investment for the taxpayer. Something about selling the stinky paper later at a handsome profit. First of all, part of my argument is that they don’t even know what they are buying yet. Second, the fact that all the politicians involved have deemed the paper “TOXIC” and yet still feel warm & fuzzy about turning them around for a profit carves in stone how inept they are. I really love that. Please don’t help me invest my money.
Back to Buffett. You want to turn a company around? Then hire someone who does it for a living. Better yet, hire someone who puts up his own money to do it for a living: Warren Buffett. I figure you give him say, 1% as a fee to go in & do this right. $7 billion is a lot, yes. But, hey, he makes that kind of money. Plus, based on the government’s track record, if left alone to do it, I’m guessing they will waste at least half of it if not all $700 billion. $7 billion sounds like a bargain when you put it into the proper perspective. Buffett will send his team door to door down Wall St & decide what each is worth. We will pay them that & not a penny more. In turn, as Buffet would do in a private deal, the Taxpayers would assume true ownership. Then we avoid the nasty “bailout” word. Because it’s not. It’s just good business. When he finishes cleaning up this mess we will sell them back to the business world at a nice profit. I trust him to invest my tax dollars. He could probably retire a nice chunk of the national debt off this. Would he take on this project? Maybe. He would be a national hero. He really doesn’t have anything left to live up to. Do it for the country Warren! John Wayne would have!
OR: PLAN 2
Let them fail
I had really rather do it this way. The business world is like Mother Nature. It has natural cleansing powers much like natural selection, survival of the fittest. It’s not wise to mess with the natural balances in either one. Artificially propping up anything is always a bad idea. Some great economist once said “if you subsidize something you get more of it. If you tax it you get less of it.” Words to live by Democrats. (woops, I promised myself to keep politics out of this).
Instead of bailing out anyone, let them buy each other’s remains as is already happening. The problem they tell us, is not about who all goes belly up, but about money to loan drying up. Ok. I can agree with that. If that is truly the crux of the issue then why don’t we do it the efficient way. Oh yeah, that word is no longer in the vocabulary of our government. Well some of us voters still remember it. If you funnel the money through failing institutions there is no way it will all flow straight to the target. Common sense.
So how do we distribute it? We give the $700 billion to Fanny & Freddy. We’ve already taken them back. We may as well use them. The Fed puts out the word to lending institutions big & small to feel free to make loans. Make the money cheap. We have a steep hill to climb. Worry about inflation later. It really doesn’t matter what things cost if you don’t have any money. Commercial, auto, mortgages, whatever. Prudent loans please. I want to see fog on that mirror. I want to see a means of paying it back. Or, at least a long history of meeting obligations. Put the money on the streets & Fanny/Freddy will promptly buy them from you so you can help the next person sweating it out in the lobby. Talk about jump starting the economy. Hmmmm. Fast, efficient, uncomplicated……Congress will never buy it.
Want something for the homeowner facing foreclosure? Ok, everyone who was doing just fine before their mortgage reset gets a free pass. Refi them at a reasonable fixed rate. No appraisal (we already know what the answer on that would be) and no credit check. Just no cash out. You want to stay in your home even if it’s worth less than you paid, fine. No, really, we appreciate it. At a minimum this will delay that house going on the market during the glut. We will save the basic compound interest & budgeting class for their children. It’s too late for this generation of “it’s always someone else’s fault”. Actually we don’t teach that. Amazing, since it’s the one thing that every adult needs. I’m thinking junior year in high school.
Bottom line: that $700 billion was a number they picked out of the air. We don’t know what’s out there until it unravels.
I say, let it unravel now. No matter how bad it is, it will be worse if we toy with it by propping up undeserving companies; painfully dragging it out, one disclosure at a time, as they return to the trough. Remember, we don’t have the cash. We must borrow it. Our grandchildren will be paying interest on this money. If there is no bailout we don’t have to worry about what’s out there. I don’t think there is a person alive that could peg the true cost of an effective bailout. But, I bet there are people who could peg the number of dollars needed to inject into the economy to move forward with a clean slate. We cannot get back the money these bandits robbed of our retirement accounts, charity endowments, ad nauseum. So we do what we always do; start making some more money.
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This is concerning an Open Letter which a real estate agent asked an attorney to prepare, addressing the issues facing the real estate industy, homebuilders, tradesmen, etc. – anyone whose livelihood depends on the real estate market. It will be sent to our congressmen once sufficient signatures are obtained.
If you agree with the concerns addressed, please sign it so that we can try to get some attention directed to these matters.
Here is the website: http://www.housingindustryletter.com.