STABILITY AND PROFITS: TREASURY'S PLAN PAYS OFF
By Stephen Smith
April 6th, 2010
The Troubled Asset Relief Program (TARP) was a program created during the recent crisis to purchase assets and equity from banks in order to strengthen the financial sector. The United States government allocated $700 billion to the program in 2008. On October 14, 2008, Secretary of the Treasury Paulson and President Bush announced revisions to the TARP initiative requiring financial institutions selling assets to TARP to issue equity warrants. An equity warrant is a contract that lets you sell a fixed quantity of shares at a specific price with a fixed expiration date. This measure was designed to protect taxpayers by giving the Treasury a chance to profit from its new ownership stake in these financial institutions. The idea was that if the financial institutions benefit from government assistance and recover to their former strength, then the government and the taxpayers would make a profit.
The mega banks which agreed to receive these preferred investments from the Treasury include Bank of America ($45 billion), Citigroup ($45 billion), American International Group ($40 billion), JP Morgan Chase ($25 billion), Wells Fargo ($25 billion), General Motors ($13.5 billion), Goldman Sachs ($10 billion), Morgan Stanley ($10 billion), PNC Financial ($7.5 billion), U.S. Bank ($6.6 billion), GMAC Financial ($5 billion), Chrysler ($4 billion), Capital One Financial ($3.5 billion), Regions Financial ($3.5 billion), American Express ($3.3 billion), Bank of New York Mellon ($2.5 billion), State Street ($2.5 billion), and Discover Financial ($1.2 billion). Of these institutions, all except American International Group, General Motors, GMAC Financial and Chrysler have repaid the Treasury. The price at which the banks could buy back their warrants became a contentious issue. Most banks wanted to repurchase the warrants so that they would not dilute the value of their shares when the warrants were exercised. Treasury and the banks could not agree on a price so the Treasury decided to hold auctions that were designed to get the maximum return based on the market demand. Treasury has made a large profit on the sale of these warrants.
It’s a positive indicator of financial strength that Treasury has found a good market for the warrants and has been able to sell them. Treasury auctioned off JP Morgan Chase, Capital One Financial, and TCF Financial warrants and made close to $2.5 billion. It recently sold its Bank of America warrants in two groups. It sold 150 million Group A warrants for $8.35 each. Group A warrants allow holders to buy shares of Bank of America stock for $13.30 until they expire in January 2019. To break even, Bank of America’s stock will need to trade at $21.65. Treasury sold 121 million of Group B warrants for $2.55 each. Group B warrants give holders the right to buy shares of Bank of America stock at $30.79 until they expire in October 2018. Bank of America’s stock will need to trade at $33.34 to break even. The extraordinary efforts that the Treasury employed to shore up the strength of the nation’s largest banks has paid off by providing the affected banks with critical capital during a time of crisis and by providing the American taxpayer with a nice profit on its investment.
