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Monday, March 23, 2009

Assessing Geithner's Toxic Asset Buy Up

The Treasury Department rolled out its plan to deal with the so called "toxic assets" today. First and foremost, this plan is extremely detailed and complicated. Off the bat, I give them kudos because far too many of the administration's plans have lacked details.

Essentially, this plan relies on private companies, Hedge Funds, Private Equity Firms, and anyone else with a lot of money, to create a market for these toxic assets. It relies on the government, through the Treasury, Fed and FDIC, to back up these companies to entice more private firms to step up. The Feds will back up some of these investments with guarantees, loans, and even with cash. It not only lessens the risk, but the exposure, and the capital necessary.

In fact, I am all for all of this, however the plan doesn't address what I see as the basic problem right now.

RMBS can be sold for about 30 cents on the dollar now. But banks are unwilling to sell for less than 60 cents -- either because they really think the loans will experience only a 40 percent loss rate, or because they fear that acknowledging market value will put them into insolvency. Which it might very well.

The problem as I see it is that if the banks were to sell these "toxic assets" at current market prices they would become insolvent. Now, by putting the government behind all of this, it will likely create a much more vibrant market to purchase these "toxic assets", but the numbers appear to be much to out of reach. The market would likely get somewhere around 30 cents on the Dollar and yet the banks need to get about 60 cents on the Dollar in order to stay solvent. While government backing would certainly create a more vibrant market, I don't think it would drive the market for these "toxic assets" to more than double what they are likely worth now.

So, to me, this plan doesn't address the most pressing issue and that is that the current market value of these "toxic assets" makes these banks insolvent. While I believe that we have an adequate plan for a smooth transfer of these assets, if I am right, the banks holding them will not like the price they are given for them now.

Here is my plan for what to do with the "toxic assets".

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