Nobody likes to play the schmuck. But, that’s exactly what the Feds are asking banks to do in order to participate in the Public Private Investment Partnership (PPIP).
So is it any wonder the FDIC, as reported by The Wall Street Journal this morning, is considering scaling back its $500 billion part of the PPIP? There are several small reasons, such as uncertainty about executive compensation restrictions, and one big one. It looks like the banks aren’t inclined to sell much of the toxic assets on their books – at least not at a price that would be attractive to investors. And why should they? Banks are better able to raise capital now and if they run low, the government is unlikely to let them fail. The so-called toxic assets owned by banks’ could only be sold at steep losses, losses that might be avoided if the banks could just hang on to the assets until the market recovers. So, why should banks sell? Why not just wait it out?
The FDIC seems surprised by this, but they shouldn’t be. Lynn Tilton, the whip-smart CEO of private equity firm Patriarch Partners has been warning about this from the start. She raised this issue in an article published by Dow Jones and in an interview with TheStreet.com when the PPIP was first announced.
Lynn knows a thing or two about such things. She is one of the few people in the world who has successfully structured a “bad bank” for dealing with toxic assets – in fact she’s constructed two, for Fleet and CIBC, and owns a rare financial patent on how to do it to boot.
In the Fleet and CIBC deals, Lynn encountered this exact same problem. The remedy is not rocket science. If banks don’t want to be schmucks, then simply give them schmuck insurance. Lynn suggests allowing selling banks to share in the profits of the assets they sell, just as she did in the Fleet and CIBC.
Even if banks don’t need to sell these assets to avoid insolvency, we need to get more capital on bank balance sheets to spur desperately needed lending. The dearth of lending is suffocating small and middle-market companies, destroying countless jobs in the process. Additionally, until these assets start trading, their value can never recover. A push from the PPIP that gets these assets moving again will speed up the process of price discovery and the recovery of value.
The FDIC has rightly scoffed at some bankers’ suggested fix, allowing banks themselves to buy assets under PPIP. But Lynn Tilton’s solution elegantly addresses the problem without the drawbacks inherent in allowing banks to play in the PPIP directly. She has proven this approach works and, if the FDIC and Treasury are willing to think a bit out of the box, it will work again.
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