Aug. 22: This column has been corrected.
Quietly, the Treasury Department is engaged in another bailout of the banks. This time, it's America's small banks that are the lucky duckies.
The federal government still holds investments in hundreds of small banks around the country in the Troubled Asset Relief Program, otherwise known as the bailout. In an effort to wind down TARP, the government is trying to sell off its holdings of preferred stock of the remaining smaller banks.
The problem is that the Treasury Department isn't getting great bids on some of the bank paper, even on the shares of banks with strong profits and strong capital. When the government sold its holdings in MetroCorp Bancshares of Houston this month, the bank itself bought back most of it — at 98 cents on the dollar. Wilshire Bancorp of Los Angeles bought back its paper at 94 cents on the dollar. The Treasury Department sold preferred shares of Ohio-based First Defiance at 96 cents, and Peoples Bancorp of North Carolina at 93 cents. All of these are regarded as healthy.
Who makes up the difference? Taxpayers, of course.
Treasury officials say that is what the market is willing to bear. But the government doesn't have to sell now, and it doesn't have to settle for less than a full repayment.
Why should healthy banks or hedge fund investors get a gift so that the Obama administration can score some political points by raising the number of banks that have left the program? For all the generous breaks that the government gave the gargantuan banks in the bailout, they all at least paid TARP back at 100 cents on the dollar. Why shouldn't the small ones pay 100 cents on the dollar like the big boys?
Sure, the bank portion of TARP has been profitable so far. The Treasury Department estimates that it will make almost $22 billion from its bank support programs. That includes an estimated $3 billion loss from the smaller banks' paper.
“We are winding down the program, at a profit to taxpayers. The program was successful in what it was designed to do,” which was to save the financial system, said Timothy G. Massad, the Treasury Department's point man on TARP. The agency is focused on “what is the way to maximize value, given that it is a temporary program,” he said. “The government is not in the business of running an investment fund and is not in the business of owning stakes in private companies.”
In the auctions, the government has been mainly selling shares it has left of the bigger and healthier small banks. Given that it has sold these shares at discounts, it bodes ill for the stock of the weaker ones that the government still holds, many of which are closely owned and more difficult to unload. Indeed, the Treasury Department didn't get a sufficient bid for some the items in its most recent auction.
Unfortunately, this quiet bailout could get worse if the government continues with its plan.
Treasury officials are contemplating a plan to pool a bunch of these small-bank preferred shares in order to accelerate the sales. The ostensible logic is that a pool — akin to creating shares in a bank mutual fund — will widen the number of potential buyers and raise prices.
Instead, however, this is likely to deepen the discounts. Any large potential investor would still not find it worth the time to analyze each bank in the pool. Rather, the bidder is likely to apply a discount to anticipate any losses.
The potential taxpayer losses from selling shares at too deep a discount could be in the hundreds of millions. Granted, that's not huge when measured against the size of the TARP program, the profits it has made already or the federal budget. But it is big as an absolute figure. It seems likely that some of these losses could be avoided.
You have to feel for the Treasury Department a bit here. It has been assailed from every side for the way it has run TARP. Recently, critics have wondered what its plan was for ending the program. Now that it has a program, critics are attacking that, too.
But much of these problems are of the government's own making. The difficulty the Treasury Department faces is a reminder of just how good the TARP terms were for the banks. Everything that makes the bonds unattractive now for investors made the preferred stock wonderful for banks.
The dividend was a comfortable 5 percent. It will soon bump up to 9 percent, but that is still not onerous for many small, privately held banks. Moreover, some banks in the program can skip the dividend payments at any time. If they miss a payment, they have no obligation to make it up. And the preferred shares never expire, so the banks could keep them as long as they want.
It's a measure of how ungrateful the banks were that even on these generous terms, they still howled about the program and wanted out. Mainly that was because of certain restrictions on executive compensation.
So what's going on here with the Treasury Department? Compass Point Research and Trading, a broker dealer that has been analyzing the auctions, put it delicately in a recent note: "The current administration is very motivated to unwind its crisis-related investments."
Translation: The world has moved on, and the Obama administration seems to be counting on being able to run down the program as quickly as possible without too much scrutiny. TARP is one of the least popular government programs these days (and that's saying something). A job managing TARP no longer burnishes résumés, if it ever did.
But it sure is too bad that, after saving the banking system, taxpayers won't get the best returns we can.