Chris Lau - Seeking Alpha

Sunday, January 25, 2009

Notes on "Obamarama" and the Proposed $825 Billion Economic Stimulus Package

News on the stimulus funding over the next few weeks will have a positive impact on the stock market. The stock market will more than likely haven trading days on the plus side as it tries to price in the influx of a massive amount of money entering the economy.

While many are interested in the impact to the stock market, in the short-term, investors need to assess the effectiveness of the stimulus package in the both the short- and long-term.

I have been keeping my eye on just a few economic metrics (housing, consumer consumption, and employment). That is not enough. General figures on de-leveraging (amount lent by banks / assets to back that lending) is needed.

With that in mind, here are some key points from Mauldin's latest newsletter about TARP.
(Points below are from Professor Nouriel Roubini and his team at RGE Monitor (
  • U.S. banks and broker dealers are estimated to incur about half of these losses, or $1.8 trillion ($1-1.1 trillion loan losses and $600-700bn in securities writedowns) as 40% of securitizations are assumed to be held abroad. The $1.8 trillion figure compares to banks and broker dealers capital of $1.4 trillion as of Q3 of 2008, leaving the banking system borderline insolvent even if writedowns on securitizations are excluded
  • Roubini argues that banks will need an additional $1-1.4 trillion dollars in private- and public-sector investments. Then he and colleague Elisa Parisi-Capone lay out in detail how they come up with their numbers.
  • "Thus, even the release of TARP 2 (another $350 billion) and its use to recapitalize banks only would not be sufficient to restore the capital of banks and broker dealers to internationally accepted capital ratios. A TARP 3 and 4 of up to $1.05 trillion (assuming generously that all of TARP 2 goes to banks and broker dealers) may be needed to restore capital ratios to adequate levels."
  • Net capitalization of US financial institutions may fall to as low as $30 billion, from around $1.4 trillion before the credit crisis; England may be down $2 trillion pounds, which is relatively much larger than the US losses
Conclusions made?
  • The real problem is that we vaporized an entire Shadow Banking System that bought securitized debt in a wide variety of forms: autos, homes, student loans, credit cards, etc. That industry exists no more.
  • Bottom line? It is going to take a lot more TARP and private money to capitalize the banks. A whole lot more. And that is before any of the other stimulus. And all that next $1 trillion does is get the banks back to where they were two years
From Bridgewater Associates (my highlights are in bold):

"The root problem is that debts that were incurred to finance assets at high price levels remain in place at their original amounts even though the assets that they financed are now worth far less. [...] Until the debts are brought in line with the assets and the income, there is no moving forward no matter how much liquidity is provided or how eloquent the speech. And, until this happens, the self-reinforcing nature of the debt squeeze will only reduce incomes and asset values further.

"There is no easy way out of a debt restructuring. Someone will have to bear the cost of prior bad decisions. The people who should bear the cost are those who made the bad decisions to make the loans or those who financed the people who made the loans. They intended to profit and would have profited if they were right. But they were wrong, so they should lose. The government needs to allow the losers to lose and focus their actions on minimizing the knock-on effects of their failure on people who didn't do anything wrong (to minimize systemic risk). They should then take action to minimize the future exposure of the innocent to the future dumb decisions of the small minority, because no amount of regulation will ever eliminate dumb decisions, so you have to plan for them (through much lower bank leverage limits to cushion losses, bank size limits and non-bank entities playing bank-like roles to improve diversification, safety nets to prevent losers from poisoning the whole system, etc.)."

John Mauldin, Best-Selling author and recognized financial expert, is also editor of the free Thoughts From the Frontline that goes to over 1 million readers each week. For more information on John or his FREE weekly economic letter go to:

On a Positive Note...

IBM and Google reported solid earnings last quarter. This makes sense, especially for Google. While companies typically cut marketing budgets, Google's adsense is still the most effective way to advertise on the Internet (how do you think this blog is supported, in addition to a sponsorship?). Conversely, Microsoft and Intel did not report good earnings. Microsoft, which has a relatively conservative and consistent stream of revenue for Office and XP/Vista, even went as far to say that it could not forecast the economy (and its impact on earnings) for the next 6 months.

M&A (Mergers and Acquisitions)? Almost unheard of, yet Pfizer might be buying Wyeth.

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