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The Stress Free Stress Tests
The NYT discussed the possibility that the Obama administration may seek to shore up the core capital of the major banks by converting its preferred shares that it purchased last fall into equity shares. The article does not discuss the very important issue of the rate of conversion.
At the time the government converted its preferred shares in Citigroup to common shares, the conversion ratio was far below the market value. By accepting a ratio below the market value, the government was essentially just giving money to Citigroup and its shareholders. It will be important to examine the price for any future conversions to determine if they are also government giveaways to the banks.
The article also refers to the stress tests that the government is imposing on the banks. The negative scenario in these tests is that the unemployment rate rises to 10 percent. At this point, it is virtually certain that the unemployment rate will rise above 10 percent by the end of 2009 and will likely still above 10 percent for most or all of 2010. This means that the economy is likely to impose far more stress on the banks that is assumed in these tests.
--Dean Baker
COMMENTS (7)
FIRST. HA! HA! HA!
Posted by: hhahahahha | April 19, 2009 11:21 PM
Dean,
While it is true that the price of Citi common used to determine the preferred conversion was above the trading price, it is also true that $12.7B of other private preferred investors in Citi agreed to using that price at the same time. In fact, the condition Geitner put on the conversion was getting private preferred investors to agree to the same or worse terms (which they did). One might argue that given the situation these were still not arm's length since the private guys had to agree to something to protect their preferred investments, but I don't think your characterization of the deal as way below fair is completely accurate. I'm sure you are aware the currently Citi's stock price is 15% above the conversion strike, so the government is now $4B in the money on that TARP tranche (the high mark on this TARP investment was $37B and the low being $8B). Clearly, this is very volatile and could easily whip around, but I think that would be a relevant fact to mention.
Posted by: lordkar | April 19, 2009 11:38 PM
That 700 billion TARP money is gone, shot up a wild hog's ass.
Posted by: Mike Meyer | April 20, 2009 1:29 AM
lordkar,
I gather that your reference point is the day of the conversion. The full market cap of Citi is about $20 billion, putting the value of the government's 36 percent stake at $7.2 billion. Our total investment to date has been $45 billion, in addition to guaranteeing $300 billion of bad assets.
Posted by: Dean Baker | April 20, 2009 5:12 AM
Citi and other large institutions got a great deal from governments' freebies.
If not U.S. government, who would have dumped all the billions. The preferred did not have much leverage. They enjoyed TARP, TLGP, and TALF.
Posted by: James | April 20, 2009 12:42 PM
The Looting Continues ...
The internet bubble ~ POP!
The Housing bubble ~ POP!
now ...
The credibility bubble ~ POP!
Bank of America reported great profits ... stock goes down 25%
Potemkin Profits will not work ...
Thanks ... Yves Smith, Elizabeth Warren and Meredith Whitney ...
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