Parts of TARP's Original Mandate MUST be Executed

TARP's Original Mandate MUST be Executed
By Sovereign Society Investment Director Eric Roseman

“This program is intended to fundamentally and comprehensively address the root cause of our financial system’s stresses by removing distressed assets from the financial system.” Treasury Secretary, Hank Paulson, October 2008

Eric Roseman Image

Until they finally create an entity to bundle toxic and mostly illiquid assets, the credit crisis will continue. Thus far, the Treasury has simply handed out tens of billions of dollars directly to banks whom remain reluctant to lend as the economy heads deeper into the financial abyss.

Back in October 2008 – at the height of the global crash – Treasury boss Hank Paulson provided hope that he would finally tackle the clogged mortgage-backed securities crisis affecting global capital markets. Investors demanded the creation of an entity to place bad assets under one roof. But the Treasury has since made a U-turn, changing its original plans.

Mortgage securitization is largely responsible for this crisis. Since 2001 Wall Street spearheaded a bull market in residential lending through the creation of mortgage-backed securities. Indeed, Wall Street – and not traditional banking – was indirectly responsible for more than 70% of all real estate loan origination.

PaulsonUnder TARP’s (Troubled Asset Relief Program) original mandate, the Treasury would apportion a sizable share of the original $700 billion dollars of tax-payer funds to place busted mortgage-backed assets into a separate entity, similar to the 1989-90 Resolution Trust Corporation (RTC) vehicle created to bundle bad loans. The RTC worked to help banks and Savings & Loans to finally separate bad loans and clear the way for economic recovery following the last real estate bear market.

But since October, Paulson has backtracked. Instead of dealing with the crux of the current credit crisis affecting counter-party trust and bank balance-sheet transparency, or the lack thereof, Paulson decided instead to disperse TARP funds directly to banks. Now most banks that have tapped into TARP won’t lend capital to a credit-starved economy. And in some cases, this has resulted in widespread hoarding whereby financial institutions are using TARP money to boost their balance sheets capital ratios. That’s not what the original plan sought to achieve.

Toxic assets include bonds backed by mortgages, including complex mortgage-backed securities, auction-rate securities backed by student loans and potentially a blizzard of other securities tied to commercial mortgages, credit card loans and auto loans. The size of these bad loans continues to grow, compounded by rising defaults made worse by an economy that is rapidly contracting since September.

Meredith Whitney, who ranks as the most accurate bank analyst predicting this credit-inflicted deluge since 2007, predicts banks will be required to fork over even more capital as loan-losses continue to rise. This will only delay any recovery in battered bank balance sheets since the initial TARP objective has been changed.

To be sure, several segments of credit have markedly improved since late November, including the TED Spread, LIBOR, investment-grade corporate bond spreads and even a series of new corporate investment-grade and junk debt issuance since December. But the bad assets still plaguing the American and European financial systems have not been addressed.

Bad assets must be segregated, identified and isolated from the financial system in order to improve institutional counter-party confidence and transparency. The credit crisis remains alive until this primary objective is tackled, if at all, by the next Treasury Secretary.

ERIC ROSEMAN, Investment Director
The Nightmare continues
Banks lose, You win. That Easy
Monday, January 12, 2009 - Vol. 11, No. 10
Federal Reserve Torpedoes Obama’s Stimulus Rally
How Interest Rate Policy Spoiled the P-E’s Party
Also in This Issue:

* Sovereign Wealth Funds Getting Skittish
* What Does UBS stand for?
* Bring Back the TARP!!

Dear A-Letter Reader,

It’s often the case that the most important news isn’t what’s happening in the world today, but what’s not happening in the world today. Case in point; President-elect Obama’s constantly growing stimulus is not driving the market upward.

Going back to the Fall of 2007, the Fed’s interest rate cuts served as an immediate boost that pushed the markets higher. As planned, these infusions of credit helped to boost market confidence and morale…even if only for a few days or weeks.

MatadorTheir effect lessened and lessened as time went on…and the boost from December’s rate cut only lasted a few sessions before being gobbled up by market uncertainty. Now, President-elect Obama is pulling out literally all of the stops in declarations about his planned stimulus…

A few states looking for a few hundred billion quickly grew into a US$1 trillion stimulus package. And the US$1 trillion stimulus package quickly grew into multiple years of US$1 trillion budget deficits. 1.5 million new jobs balloons to 4 million new jobs…but the stock market doesn’t even flinch.

What gives? With what seems like a promise to write blank checks, infusing seemingly unlimited amounts of credit into the flagging economy, why isn’t Obama’s stimulus effort gaining any short-term traction in the marketplace?
It’s a (Liquidity) Trap!!

In monetary economics, a ‘liquidity trap’ happens when a Central Bank’s nominal interest rate reaches zero and investors stop expecting significant returns on their financial and real investments…and start sitting in cash.

Think about it; cash only ever yields zero. But when the Fed’s interest rate hits zero, the same is true of short-term credit. The two are comparable in terms of reward…both yield zero. So there’s no incentive to take a risk and lend when you can expect the same returns from hoarding cash. This is true for both consumers and businesses, and it’s especially true when you account for the increasing default risk and general uncertainty that have become commonplace in today’s markets.

So in its efforts to stimulate the economy, the Fed is actually doing the exact opposite…slowing the economy by adding even more incentive to hoard cash in these troubling times.

Cat in waterAs a result, the marketplace becomes resistant – if not outright immune – to further infusions of credit. Be it through trillions in deficit-spending “stimulus,” or the witchcraft of quantitative easing, the job of stimulating the economy after implementing a zero interest-rate policy becomes much, much more difficult.

And in light of recent news covering the precipitous drop in consumer demand, you’d be hard-pressed to find Obama’s planned stimulus showing any traction in the marketplace. Combined with the rising savings rate, the current freefall in consumer demand means disaster for corporate earnings and – in turn – share prices. This gradual realization will likely continue to offset any boost offered by Obama’s continued pep talks.

In reality, Obama’s pledge to make a new “New Deal” with the American people should be significantly boosting the economy. After all, the prevailing wisdom is that these kinds of policies helped us through the great depression. Those who were crossing their fingers for an “Obama Stimulus Rally” were almost spot-on…except they forgot about one thing.
The onerous burden of Central Bank policy.

No…it appears as though we won’t see a stimulus rally in January after all. And with any rally’s momentum deadened by the liquidity trap, one could reasonably expect that the market has reached its short-term peak.
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Sovereign Wealth Funds Get Skittish

“Only 12 months ago pundits claimed most emerging markets would be immune from the credit crisis engulfing the United States and Europe,” says Investment Director Eric Roseman, “They were dead wrong. The emerging markets have plunged more than 65% from their all-time highs while rich oil producing nations, including the Gulf States, have crashed.”

Gulf Bank“On Thursday, the region’s first default occurred as Global Investment House, a top Kuwaiti investment bank, defaulted on most of its $3 billion dollar debt obligation. This follows the Kuwaiti government’s rescue of Gulf Bank, the country’s fourth largest bank in November after suffering massive losses tied to bad trades.”

Most of the world’s largest Sovereign Wealth Funds are dependent on commodities like oil to keep their coffers growing. And after oil’s precipitous drop and the onset of domestic financial troubles, these SWFs are starting to invest closer to home…
“At first, bulging oil surpluses were viewed as a White Knight by troubled Western banks. But now, with oil prices tanking, the region’s SWFs have stopped shopping overseas and have started to repatriate capital, as liquidity grows scarce at home. It’s the same story in Asia where SWFs have halted international investments as domestic capital markets swoon.”

“Nobody is immune from the greatest credit squeeze since the 1930s. Not Russia, not the Gulf States, not China and certainly not India.”

Eric continues…“I suspect that hostile or non-Western friendly oil producing nations will begin to warm up to U.S. foreign policy if oil prices remain at these low levels. Venezuela, Bolivia and Russia come to mind as those nations that until recently have embraced a tough tone, calling the shots on local drilling projects and tossing out the Americans and Europeans following government nationalization of energy infrastructure.”
What Does UBS Stand For?

“For American Clients,” says Legal Counsel and Resident Offshore Expert Bob Bauman
“U Be Screwed!”

Bob was responding to Thursday’s announcements that some 19,000 accounts – representing all of UBS’s American clients – would be closed immediately.

Swiss Army Knife“One of our Swiss advisors in Zurich with whom I spoke today called the UBS action "a high handed violation of trust" and a "crude attempt at their clients’ expense to get ride of a political hot potato,”” said Bob.

“It is also another stark confirmation of the advice the Sovereign Society and its editors have repeated since our founding more than a decade ago -- "Don't bank with UBS or Credit Suisse," -- the two monster-size Swiss banks that cared more about their own expansion and money making then they did about their own clients.”

“UBS says it will transfer the assets to other banks or other divisions within UBS, or will mail checks directly to the account holders, creating paper trails for U.S. prosecutors who are examining whether UBS clients used such accounts to evade taxes.”

Man with Screw“The American clients who may have violated the law by failing to report their UBS accounts suddenly face stark choices brutally forced on them by the bank they trusted: a) they can cash their checks and thereby alert the IRS to any potential wrongdoing, or; b) not cash them, effectively losing their money, or; c) they can transfer the money to new banks, a procedure which requires U.S. depositors of more than $10,000 to report the new account to the U.S. Treasury Department.”

“I can assure you,” says Bob, “based on our authoritative Swiss contacts and advisors, that no other Swiss bank now will accept these soon-to-be ex-UBS clients -- those folks are left our in the Alpine cold.”

What does this mean for Swiss banks in general?

“There are still solid Swiss banks we can recommend that have not, and will not, betray their clients -- banks where Americans are still welcome. We can also direct you to proper Swiss investment, insurance and annuity experts. All those prerogatives come instantly with Sovereign Society membership.”

Less than six months ago, the whole of the business world was crying for a return of the Resolution Trust Corporation (RTC), the government-sponsored vehicle used to clean bad loans off bank balance sheets after the S&L Crisis of the 80’s. And they got it – supposedly – with Paulson’s US$ 700 Billion TARP plan. But the Treasury pulled an about-face, and in the midst of a global panic overhauled the entire plan. So far, over half the money’s been spent (the Bush administration may soon be granting the second half) and not a single “troubled asset” has been purchased? What gives?

Investment Director Eric Roseman has the scoop on why TARP’s original plan was so important, and what the Treasury’s been doing with the money otherwise…

Yours in Personal Sovereignty,

MATTHEW COLLINS, A-Letter Editor

P.S. Former Congressman and Resident Offshore Expert Bob Bauman is among the world’s leading authorities on second passports, and he’s released a special set of videos, “The Ultimate Escape Plan,” to confront the rising uncertainty facing Americans today.

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THE SOVEREIGN SOCIETY OFFSHORE A-LETTER
Erika Nolan, Publisher • Bob Bauman, Legal Counsel
Matthew Collins, Managing Editor • Eric Roseman, Investment Director
David Newman, Market Analyst • Sean Hyman, Currency Analyst
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