Thursday, 16 December 2010 10:42

Buried Deep Within The Files That The Federal Reserve Released On Thier MBS Purchase Program, We Found TARP 2.0!!! More Taxpayer Money To The Banks!

About a year ago, after hearing so many pie-in-the-sky perma-bullish pundits and bankers say how banks paid every cent of TARP and government assistance back, I went on the following rant - 10 Ways to say No, the Banks Have Not Paid Back Their Bailout from the Taxpayer! Monday, January 18th, 2010:

Yes, some of the banks repaid TARP, with interest and warrants. Okay. The investment big banks (that were still in existence) were offered expedited financial holding company (bank) charters. That is why they didn’t fail, at least in part. So, running down the list, the banks paid back TARP. That’s a +, but….

    1. What was the value for bank charter, to get cheap access to the Fed’s funds? did they pay back this value yet? No!
    1. How about the payment of interest on the banks’ excess reserves at the Fed. Have the banks repaid that yet? No!
    2. The Fed and the Treasury have purchased hundreds of billions of dollars of Agency debt, Agency mortgage-backed securities (MBS) and related securities through Treasury purchase programs. Have the banks paid back the capital behind those purchases yet? No!
    3. How about the Term Auction Facility? Has the capital behind the benefits of that program been paid back? No!
    4. Then there is the Primary Dealer Credit Facility (PDCF), has this been paid back? No!
    5. Do you remember the Term Asset-Backed Securities Loan Facility (TALF)? Have the funds behind that been paid back? No!
    6. What about the PPIP? No!
    7. Hey, there’s the Foreign Exchange Swap programs (the currency swap lines, that saved not only our banks but out banks facing counterparties who were short on dollars), has that been paid back? No!
    8. There’s the Commercial Paper Funding Facility (CPFF), have the funds behind that been paid back? No!
    9. Most importantly, the opportunity cost of ZIRP, which hurts those who do not speculate (or have not speculated) with near free money! How do you pay that back to grandma and her .017% CDs?

Well, all rants aside, if you bothered to go through the mass dump of data that the Fed produced as a result of the Bloomberg FOIL suit, you will find that not only did the banks not pay back the massive amount of assistance that was given to them, they were actually granted more in the form of MOPTARP (MBS Overpayment Troubled Asset Repayment Program), and yes, I did make that up. How much more? Well, potentially more than the original TARP bailout! I'm getting ahead of myself though, so let's backtrack.

As we all know, we had a credit and real estate bubble that first lifted then toppled nearly all of the major US banks. Apparently, none of the gurus on  the Street saw this coming (the very same gurus who now say we are in recovery and the worst is behind us), save a tiny coterie of truth seekers (Did Reggie Middleton, a Blogger at BoomBustBlog, Best Wall Streets Best of the Best?). The downfall of the banks was basically binging on inflated, junk assets using excessive leverage at the top of a big bubble. The government used the alphabet soup of programs to bailout the banks, but the mainstream media focused primarily on TARP of about $750 billion, which kept everybody's focus off of the real money that ran well into the tens of trillions (listed in the 3rd paragraph above). The government then agreed to buy many of the aforementioned junk assets off of the banks using programs that I warned were truly suspect. Now that we have caught up to recent history, let's move on...

These mortgage and real estate related assets are of very little value to anyone outside of  vultures and speculators looking to purchase them at a deep discount, despite the fact that the government has overpaid for them continuously with taxpayer monies. Bank of America is trying to sell $1 billion of toxic mortgage assets, and these assets have already been written off, which goes to show you have bad they want to get rid of them vs trying to work them out to achieve maximum recovery. Maybe the bank has come to the same realization that I have been espousing for years, that there is little to no effective economic recovery to be had.

For more on collateral behind trash mortgage assets on banks balance sheets, see:
  1. The 3rd Quarter in Review, and More Importantly How the Shadow Inventory System in the US is Disguising the Equivalent of a Dozen Ambac Bankruptcies! Wednesday, November 10th, 2010
  2. Banks, Monolines, and Ratings Agencies As The Three Card Monte (Wall)Street Hustlers! Its a Sucker’s Bet, Who’s Going to Fall for it in QE2? Tuesday, November 9th, 2010
  3. The Truth Goes Viral, Pt 1: Housing Prices, Economic Sales and the State of DepressionTuesday, October 5th, 2010
  4. Pay Attention to the National Association of Realtors and Their Chief Marketing Agent At Your Own Risk! Monday, October 4th, 2010
  5. and most importantly, Those Who Blindly Follow Housing Prices Without Taking Other Metrics Into Consideration Are Missing the Housing Depression of the New Millennium. Monday, October 4th, 2010

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Subscribers have access to all of the data and analysis used to create these charts, in addition to a more granular application, by state in the SCAP template and by region in housing price and charge off templates – see

About a month ago I explained that "The Robo-Signing Mess Is Just the Tip of the Iceberg, Mortgage Putbacks Will Be the Harbinger of the Collapse of Big Banks that Will Dwarf 2008!" and literally days later Bank of America was hit with a massive $47 billion put back request from investors. The CEO vowed to fight the requests, but now seems amenable to settle. What do you think all of the other investors will do if or when this bank (or other banks) cave without a fight? Now we have Bank of America negotiating with PIMCO over $47 billion of put backs:

Bank of America Corp., after vowing to fight requests that it repurchase certain loans, has begun potential settlement discussions with some of its largest mortgage investors, according to people familiar with the situation.

The group discussing a possible settlement with the nation's largest bank as measured by assets includes the Federal Reserve Bank of New York, government-owned mortgage company Freddie Mac, BlackRock Inc. and Allianz SE's Pacific Investment Management Co., or Pimco, a unit of Allianz SE.

The approach appears to be a major shift in strategy for Chief Executive Officer Brian Moynihan, who in November pledged to engage in "day-to-day, hand-to-hand combat" on investor requests to repurchase flawed mortgages made before the U.S. housing collapse.

Now, what is really the value of these securities and assets that Moynihan is trying to dump so aggressively? Let's look at the Fed's recent disclosures to find out. The asset buying binge that we are focusing on today was aided by the Public/Private Investment Program (PPIP, see Reggie Middleton’s Overview of the Public-Private Investment Program). The “stated goal” of the Public-Private Investment Program is "to strengthen capital base of financial institutions and enhance their ability to lend, ensure efficient price discovery of legacy assets by involving private players and minimizing the risk to taxpayers while providing opportunity to private players to earn sufficient returns." I have raised concerns that this program is actually a backdoor bailout and would enable sole sourcing in lieu of open market, competitive bids. Thanks to Bloomberg’s FOIL suit against the Federal Reserve, we can now see how correct I have been in my warnings and proclamations regarding funny business in the MBS markets. Let’s take a look see.

The Government’s MBS Purchase Program

As we highlighted in Reggie Middleton’s Overview of the Public-Private Investment Program, price discovery has to occur at a natural level for a sustainable bull market which was not a prominent feature of the PPIP. In “Reggie Middleton on PPIP, part 2 Thursday, March 26th, 2009 I gave explicit examples of how collusion and price manipulation could take place in the absence of true price discovery. Fast forward to today, and we find that the Fed’s newly minted MBS sales disclosure page states that “Outright [MBS] purchases were conducted via competitive bidding to ensure that trades were executed at market rates.” However, according to a paper (h/t EB from ZH) entitled “Large-Scale Asset Purchases by the Federal Reserve / Did They Work?“, written in part by NY Fed SOMA Manager, Brian Sack states that “Because the MBS purchases were arranged with primary dealer counterparties directly, there was no auction mechanism to provide a measure of market supply. Instead, the pace of purchases of each class of MBS was adjusted in response to measures of whether that class appeared relatively cheap or expensive. To avoid buying at excessively high prices and to support market functioning, purchases were increased when market liquidity was good and were reduced when liquidity was poor.” Sounds like somebody’s stretching the truth a little, doesn’t it? Well, I dug a little farther to see just who that somebody may have been.

The truth swept behind the 340,000 data item spreadsheet, buried beneath over 70,000 transactions and over 10,000 MBS-only transactions reveals....

We have conducted analysis on all MBS sale and purchase transactions conducted by the Fed whose data was recently released. Of the total 10,058 MBS transactions, 72% were done at a yield of less than 5% (5% below yield of 4.0%, 32% between 4.0%-4.5%, 35% between 4.5-5.0%) with an average yield of 4.75% on all MBS transaction. The table below presents the number of transactions under their respective yield category.

We have also analyzed the yield on MBS purchased and MBS sold, looking for price discrepancies between MBS purchased and MBS sold. The data points out that the average yield on MBS purchased was 4.71%, 29bps lower than average yield for MBS sold, thus implying MBS purchased were at a higher price than MBS sold. You know that old government adage, buy high and sell low!

Yield on sale: 5.00%
Yield on purchase: 4.71%
Difference in bps: 29.1

Assuming a 4.0% implied yield on all securities, 95% of the MBS securities were purchased at a premium to market value while assuming 5.0% implied yield 28% of securities would have been purchased at a premium to market value. Of course, the question remains… Why pay a premium to market value at all (with even .01% of total purchases) in a distressed and downtrending market with highly questionable collateral? Had the government/Central Bank followed the prudent man rule and paid a slightly higher yield (avg yield of 5.0% instead of 4.75% - basically a discount for the assets as is called of in distressed buying), it would have saved $62bn of tax payers’ money on MBS transaction while a 6.0% and 8.0% yield would have saved $391bn and $869bn of tax payers’ money, respectively. Please keep in mind that Ex-secretary Paulson’s initial TARP request was for a mere $750 billion. One could be rest assured that the private sector using its own money at full recourse will be looking for steep discounts, unfortunately our fair government was all too generous.

Other observations

Deutsche Bank with $411bn of trade volume, had the highest MBS transaction value followed by Credit Suisse at $383bn and Morgan Stanley at $280bn while Canto (4.55%), UBS (4.60%), Nomura (4.61%) had more favorable yields compared with other banks (average yield for transaction was 4.75%) The table below presents information on MBS transactions and yield for each participating financial institution.

All paying subscribers should feel free to download the scrubbed and analyzed data for all banks, primary dealers and investment managers here: File Icon Federal Reserve MBS Purchasing Analysis. I have made it easy to go through the data by sorting through the 340,000 or so data points for you and putting them in a neat little Excel model. Those who are interested in subscribing should click here.

Last modified on Thursday, 16 December 2010 10:42


  • Comment Link MP Thursday, 16 December 2010 23:59 posted by MP

    I'm interested in knowing how Brian Sack determined what asset classes were cheap and which were expensive. I'm not sure how anything can appear expensive when the printing press (or computer screen) is at the tip of his fingers.

  • Comment Link benbushiii Thursday, 16 December 2010 17:04 posted by benbushiii

    The Greatest CON of the American People EVER!!!! (Originally Written in 12-2009)

    Did the government really make Money? Depends upon how one accounts for the profits, and looks at both sides of the ledger: Banks' balance sheet and government balance sheet. If the banks levered up and purchased 5 to 10 year notes and earned the yield on the spread, who paid the yield on the spread? The notes would be an obligation of the Treasury and the interest would be part of the national debt. So let's do some simple math. Suppose a bank received $10 Billion in TARP funds, and then purchased $500 Billion in Notes with a 3% coupon. They would have earned $15 Billion in interest over the past year, paid back the $10 Billion plus say 5% interest or some warrant sweetener, earning the government perhaps 10% or close to $1 Billion per $10 Billion in TARP funds.
    So the banks pay back the $10 Billion plus interest of $1 Billion and keep the remaining $14 Billion. Where did the $14 Billion come from? The national debt has grown by $14 Billion and the banks make pay out huge bonuses and retain a substantial amount of new capital all in a giant Ponzi game at the expense of an exploding national debt. To put this in perspective, the amount of interest paid out on each $100 Billion of Tarp funds invested and leveraged in the above manner, would have increased the national debt by $140 Billion ($15 Billion interest earned - $1 Billion paid as interest on TARP loans = $14 Billion per each $10 Billion in TARP funds). How smart did the trading desks have to be to put this trade on? So let’s say $500 Billion in TARP was used, the national debt grew by $700 Billion in order to fill part of the Black Hole in the Banks balance sheets. If one looks at the profits of these large institutions over the past year, it is amazing how close the trading profits come to the above example. And Wall Street believes they should receive bonuses on this shell game?

    The original game has changed some over the last year, since the FED had to figure a way to take the leveraged trade back from the banks; QE II.

  • Comment Link Reggie Middleton Thursday, 16 December 2010 16:55 posted by Reggie Middleton

    As interest rates increase, ala euro collapse via defaults, etc. You will see housing prices collapse and that will assist in clearing some inventory.

  • Comment Link Reggie Middleton Thursday, 16 December 2010 16:54 posted by Reggie Middleton

    Interesting point.

  • Comment Link jal Thursday, 16 December 2010 16:10 posted by jal

    There are greater implications than what you have mentioned.

    The immediate impact is that there will be fewer request for put backs. (ie. Deutsche Bank with $411bn)
    With the gov. being the owner of those MBS, it makes it possible to overcome some of the constraints of securitization.

    It might even be possible for the gov. to give permission to loan mods.’S-RIGIDITIES
    (Additionally, servicers may be required to purchase any loans they renegotiate at the face value outstanding or at a premium.)

  • Comment Link Thomas Thursday, 16 December 2010 15:23 posted by Thomas

    Reggie, good appearance on Bloomberg!

    Question: would it not help if the US govt would use tax policy to create for real estate, what the auto auction process has done, re: automobiles. In that ...some non-financial, operating entity can take title to the excess RE (legal status immaterial at this point) and "make the market" (a la the auto-auction process) as locally capitalized, area-localized "real estate dealers"??

    Of course, the NAR would go ballistic, because their 6-7-8-9-10%, zero-capital-at-risk parasitic 'bite' would be suddenly at the whim of a "dealer" (who has real capital at risk!). I see no other way to work down the inventory & restore price efficiency without a market & technology driven solution, sans any other govt subsidy (means-test the mortgage interest deduction).

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