Bank plan buys time, but that's all
A nearly painless, win-win solution for Wall Street and taxpayers? Don't believe it for a minute. But the hoopla gives investors a chance to profit in the short term.By Jon Markman
http://articles.moneycentral.msn.com/Investing/SuperModels/bank-plan-buys-time-but-thats-all.aspx">MSN Money
Stocks have zoomed around this month like hornets escaping from a broken hive, generating an exciting buzz and just a hint of danger. And the good news is that they've got a real shot at staying on the loose for as long as 45 to 60 days -- plenty of time to make us some money before they're rounded up and squished.
Here's the situation, and a few ways to play it.
Deteriorating U.S. and European home prices and unpaid mortgages, as you know by now, are the central curse of this entire bear market. These seemingly minor matters have spread like a bad flu through the entire global financial system and caused all manner of aches and fevers, from bankruptcy at big brokerages to galloping unemployment. Yet if the mortgage problem can be solved, then most of the other problems can also be contained.
In six weeks the U.S. government, after much dithering and navel gazing, is going to do something concrete about those bad loans and the securities they've been packaged into. Treasury Secretary Timothy Geithner has announced a plan to join forces with handpicked private funds to buy up to $1 trillion worth of soured loans from struggling banks. The Treasury says it will kick in most of the money -- shagging some from taxpayers, and printing or borrowing the rest -- so long as the fund managers agree to do the dirty work of pricing and reselling the assets.
It sounds like a "win-win-win," as one private-fund manager put it, because if it works in practice like it looks on paper, then banks will finally be able replace yucky old mortgage loans with fresh, green, lendable money; fund managers will have new product to mark up and sell; pension funds will have new high-yield paper to satisfy their long-term obligations; and Geithner will earn some time off to get a tan and put some weight on his skeletal frame.
A cure-all for the banks -- for nowThe reason stocks may be buyable for a short while: No bad news will be counted heavily against bank stocks until this program gets under way, which means that the low set on March 6 is likely to endure for a while. For a time, no matter what potentially damaging economic data are in the news, analysts will say that this loan-removal surgery will fix the problems.
This gives bulls two months to lift the Dow Jones Industrial Average ($INDU) 30% toward its 2008 average of around 10,000, which would be a typically strong rally within the context of a bear market, before hitting a wall.
Ah, but there are problems with this rosy scenario, as you may well imagine. First, five times the $1 trillion in bad mortgage-based loans and derivatives remains outstanding. And second, everyone knows win-wins are never available at the Wall Street casino. So the mere fact that this one is advertised as such is a gigantic red flag. Indeed, judging from my discussions with a lot of fixed-income experts you won't see on television, there's a decent chance that the whole deal will blow up in about six weeks.
To understand why, you need to realize that the U.S. financial system is not facing troubles that the world has never seen. Booms and busts of the credit cycle underlay much of Western economic history, as banks have repeatedly borrowed too much in good times and gone splat in bad times. The usual response is for governments to close the banks for a while, extinguish the bad loans, tell equity investors and some bondholders they're out of luck, print new money to make up for the missing credit, suppress peasants outraged about dilution of their cash, then wait a while and pretend it never happened.
That process takes guts and time, and the Obama administration appears short on both. And besides, hey, we're modern and have more brains, tools and hope. Why not try something new?
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