I didn’t post this article at first, because I thought the financial press was making a much bigger deal out of what seemed, to me, a fairly tepid critique of Bernanke’s actions.
April 8 (Bloomberg) — Former Federal Reserve Chairman Paul Volcker questioned the central bank’s decision to rescue Bear Stearns Cos. with a $29 billion loan, saying it was at “the very edge” of its legal authority.
“The Federal Reserve has judged it necessary to take actions that extend to the very edge of its lawful and implied powers, transcending in the process certain long-embedded central banking principles and practices,” Volcker said in a speech to the Economic Club of New York.
Fed Chairman Ben S. Bernanke last month agreed to lend against Bear Stearns securities, paving the way for JPMorgan Chase & Co. to buy its Wall Street rival. Bernanke, who worked with Treasury Secretary Henry Paulson to broker the bailout, last week defended the move as necessary to prevent “severe” damage to financial markets.
Volcker, the Fed chairman from 1979 to 1987, had implicit criticism for U.S. regulators and market participants who allowed “excesses of subprime mortgages” to spread into “the mother of all crises.” The Fed’s Bear Stearns loan was unusual, he said.
“What appears to be in substance a direct transfer of mortgage and mortgage-backed securities of questionable pedigree from an investment bank to the Federal Reserve seems to test the time-honored central bank mantra in time of crisis: lend freely at high rates against good collateral; test it to the point of no return,” he said. …
The first three times I read that last sentence, it sounded like this in my head:
“… test the time-honored central bank mantra in time of crisis: lend freely at high rates against good collateral [and] test [lending freely at high rates against good collateral] to the point of no return” (as in, lend at high rates against good collateral until/unless something bad happens). Which seemed oddly dovish coming from Volcker.
However, I’m pretty sure that’s not what Volcker meant, but rather, “… test the time-honored central bank mantra in time of crisis — lend freely at high rates against good collateral — test [the mantra of good collateral] to the point of no return.” (As in, “no return” to the present Fed system.)
Maybe I’m just slowing down with age, and this was more obvious to others who read the article. But it makes more sense now, and comes across as a much more pointed critique of Bernanke.
Market-participant herd psychology baffles me. I guess every community suffers from echo-chamber effects sometimes, but it’s just strange how normally intelligent, independent, ahead-of-the-curve finance people such as Dick Bove, GaveKal, and so on, completely abandon their convictions and common sense during times of stress, and find any number of rationalizations for why perpetuating a bailout culture is “brilliant.”
So Volcker’s words are all the more valuable, in my book.
Actually, I also read it to be dovish at first, but then I rethought and inferred that he probably meant – charge as high rate as you can get away with/they can afford till they can’t pay you anymore.
I would like to hear your thinking on WAMU investment by TPG. Personally, I think TPG is betting that they’ll recover their investment in 12-18 months after the recession is over. I think they’ll find (to their detriment) that $8.75 was quite a high price to pay for WAMU.
I am a bit confused about Citi sale to PE firms. I am not sure why these firms drive a harder bargain. Do these loan purchases contain a ‘put’ (or repurchase) option? Is there a way to find that out? If this is the case, then the deal makes sense.
And these analysts? Citi a great bargain at these prices? I mean seriously, how many times can you short it at $24 without getting bored?
Shankar
Shankar,
I think any big investor who plunks down billions into one of the bailed-out institutions (CFC, WAMU, C, MER) is making a highly defensible bet that the government simply will *not* allow them to go bankrupt no matter what.
Private equity is not suffering much, relatively speaking. They still have a lot of cash and need to put it to work. But they don’t much want to start a new acquisition spree right now. So instead, they are making bets that the leveraged-loan blowup has finally ended, and are driving deals. This way they will be able to effect the acquisitions with much less debt, because C is taking a significant haircut.
When I read that article, I believe it said that Citigroup would “take discounts of up to 90 percent” on the leveraged loans. I assumed that was a typo. If it isn’t, then the PE’s are definitely driving a savage bargain with C, or alternately, C is very, very desperate.
And yeah, C is not a good short right now.
Best,
E
Eric,
Thanks for the response. You seem to be right. Today on CNBC (and that channel needs some hefty dose of reality) they were saying that C will loan money to these PE firms to take these loans off its balance sheet. Hmmm……….
I still think C is a good short just like other financials.
(Full Disclosure: Been short on these for over a year now.)
I expect C to be in single digits in the next 12-18 months.
Shankar