2009-05-25

Geithner set to shortchange taxpayers by $10 billion

Yet again, I'm amazed by the work accomplished by Bloomberg. They are doing true investigative journalism and not just news reporting by spreading the information they are handed by the officials and other representatives...

Anyway, here's the deal: Geithner is undervaluing the warrants the US Gov holds in banks and accepting to sell them with a massive 80% discount to fair valuation. According to Bloomberg, if this goes on until all the warrants are sold back to the originator, the tax-payer will lose $10 billion. These losses to the tax-payers are obviously gains for banks and this hence nothing but yet another wealth transfer from the people to the banks.

Just to be able to have comparison ground: a $10 billion gift to the banks is also the price of 50,000 houses priced at $200,000 or 500,000 cars priced at $20,000.

This is what I have been calling the reverse Robin Hood scheme in the following posts:
May 22 (Bloomberg) -- Banks negotiating to reclaim stock warrants they granted in return for Troubled Asset Relief Program money may shortchange taxpayers by almost $10 billion if Treasury Secretary Timothy Geithner’s first sale sets the pace, data compiled by Bloomberg show.

While 17 financial institutions have repaid TARP funds, two have come to terms with the U.S. on the value of the rights to buy stock that taxpayers received for the risk of recapitalizing the industry. The first was Old National Bancorp in Evansville, Indiana, which gave the Treasury Department $1.2 million last week for warrants that may have been worth $5.81 million, according to the data.

If Geithner makes the same deal for all companies in the rescue program, lenders may walk away with 80 percent of the profits taxpayers might have claimed. [...]

Under the Old National warrants formula, Bank of America Corp. would save $2.03 billion, followed by Wells Fargo & Co. at $1.48 billion and JPMorgan Chase & Co. at $1.46 billion. Morgan Stanley’s benefit would be $983 million, Citigroup Inc.’s would come in at $965 million and Goldman Sachs Group Inc. would have $693 million, according to the data compiled by Bloomberg.

For the 20 largest TARP recipients, the total savings would be $9.985 billion, the data show.[...]

On May 11, the day the U.S. announced the sale, the stock’s option-implied volatility, derived from market prices of stock options that are traded daily, was 61 percent, according to data compiled by Bloomberg. The risk-free rate of return, or the yield of government debt, was 3.47 percent that day.

Based on that volatility and that rate, the Black-Scholes options valuation tool appraised one Old National warrant at $7.18. The bank paid the U.S. $1.48 for each.

“We were able to reach a deal that was good for our shareholders and Treasury felt was good for taxpayers,” said Old National Chief Executive Officer Bob Jones.

The second TARP recipient to reclaim stock-purchase rights was Iberiabank Corp., a Lafayette, Louisiana-based lender with $5.6 billion in assets that took $90 million in TARP assistance.

Iberiabank paid $1.2 million to buy 138,490 warrants at $8.66 a share, according to a May 20 filing. They may have been worth $19.78 each, or a total of $2.74 million, according to data compiled by Bloomberg and modeled by Black-Scholes.

[...] A risk management device, Black-Scholes was developed in 1973 by Fischer Black and Myron Scholes to estimate the fair market value of stock-option contracts. Williams, the Treasury spokesman, declined to say whether Black-Scholes is one of the two models the department employs.[...]

Buffett received 43.5 million warrants valued by Black- Scholes at $3.6 billion, or $82.18 each, on the date of the transaction, data compiled by Bloomberg shows. Taxpayers injected twice as much into Goldman Sachs and got 12.2 million warrants worth $882 million, or $72.33 each.

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