Well, now we know why the heads of the nine families were summoned to Washington today: To have capital shoved down their throats. The Treasury will be taking preferred equity stakes in nine big banks, the WSJ says, despite the fact that many didn't want the money:
- Goldman Sachs (GS), $10 billion
- Morgan Stanley (MS), $10 billion
- J.P. Morgan (JPM), $25 billion
- Bank of America (BAC) $25 billion
- Citigroup (C), $25 billion
- Wells Fargo & Co. (WFC), $20-$25 billion
- Bank of New York Mellon (BNY), $2-$3 billion
- State Street, $2-$3 billion
Not hard to guess who's pysched about this new deal (BOFA, Citi, and Morgan) and who probably isn't (everyone else). The collective force-feeding is designed to remove the stigma of taking government funds and, thus, pave the way for a $250 billion recapitalization of the entire banking system. Bloomberg says none of the banks were given a choice. Worse (from the banks' perspective), all will now be subject to compensation restrictions, albeit toothless ones.
According to the NYT, the investments will take the form of perpetual preferred stock with a 5% coupon that increases to 9% after five years. The security will also be callable at par after three years (meaning the banks can pay the face value and retire it, as they would a debt instrument). The Treasury will also get warrants for 15% of the value of the investment. (Bloomberg and, initially, the NYT reported that the investment would cause "no dilution" for current shareholders. This would require a miracle of accounting. Unless the preferred is just a loan, it represents an ownership stake, which means current shareholders own a smaller percentage of the company. Ditto for the warrants).
The warrant exercise prices will be struck at an a 20-day trailing average price on the date of issuance. What the bank stocks do between now and the date of issuance will therefore determine the level of dilution.
Separately, the FDIC will temporarily guarantee interbank lending--and charge the banks a fee for doing so. This move, one hopes, will persuade banks to finally start lending to each other again.
These are both smart moves: without the force-feeding, the stigma of accepting Treasury help would have deterred many banks that actually needed capital--including some of those above--from taking it. The only additional move we wish Paulson had made was forcing writedowns of bank assets to uniform (and low) levels. But we expect he'll now deal with that problem by eliminating mark-to-market accounting. (The sums of money, moreover, are meaningful: $25 billion can sustain $250-$300 billion of assets).
Details on pricing and other terms on the preferred stakes will be critical: Only then will other shareholders know how much they are being diluted. As we noted yesterday, George Soros recommended giving current shareholders the opportunity to invest alongside the Treasury and thus preserve their stakes. Given the need for speed, however, this is probably unlikely.
After a few weeks of uncharacteristic incompetence (TARP?), it seems Hank Paulson has found his mojo again. Let us hope that this and the rest of the new bailout plan finally begin to thaw the credit markets.
See Also: Only Thing Missing From New Bailout: Forced Writedowns
