Monday, September 29, 2008

The Bailout

The link above will take you to an article that gives some details about the bailout agreement reached by congress yesterday. What follows are some of my thoughts:

It has become conventional wisdom that this bailout must pass or all hell will break loose. I'm not much for conventional wisdom, however I do believe this bailout will go a long ways toward softening the hit to the global economy that would occur if we didn't have this bailout. The idea is to create a market for securities that banks hold on their balance sheets so that the banks have some breathing room, can recapitalize (hopefully using the private markets) and begin lending again. Lending is at the heart of this crisis - without lending (reasonable lending) our economy cannot function. Be aware that the government IS participating in re-capitalizing these institutions by purchasing the so-called "toxic" assets. While you may not be hearing this, the government IS going to overpay for the securities they are buying.....despite what we are being told. Remember that there is always a market for virtually anything one has to sell, the toxic assets held by these banks CAN be sold right now and there are willing buyers. If you don't believe me you need only to look up a transaction that occured just a few months ago when Merrill Lynch offloaded their toxic assets for 22 cents on the dollar. The banks CANNOT do this - they would be insolvent, thus the government will purposely overpay for these assets in order to re-capitalize the banks and give them some room.

While the government will be recapitalizing these banks, it won't be paying so much for the securities that they will fully re-capitalize the banks, the banks need more capital. The hope is that institutions will have confidence in the balance sheets of these banks again and make investments in them.

I do not believe this plan will add to the deficit, I do believe it has the ability to make money for the Treasury. I'd be happy if it was just cost neutral over the long run.

What does this mean for you? We'll just have to wait and see. I don't think it will lead to higher taxes. Higher taxes will kill or severely maim any possible recovery. In the short term things will continue to be painful, this is not a silver bullet - but perhaps it is a silver covered bullet.....which is the first step in the right direction.

I do not and will not speculate on what the markets will do in the short term - I do not know. A brilliant man once said when asked what he thought the market would do "It will either go up or down." Those are my thoughts exactly. I do believe in the long term prospects of the stock market though. This financial crisis might seem like something new, and for most of us it is, however American has faced such crisis before and weathered the storm.....and came out stronger than before.

Did you know that their were financial panic's before the Great Depression? Yep, we had a severe panic in 1907 (I'll be writing more on that later) and previous to that we had at least 13 panics that led to runs on banks (including one partially owned by one Ulysses S. Grant). The hope is that we've learned from these panic's and have the tools in 2008 to ensure that they don't lead to Depressions, I believe we have those tools.

Scott Dauenhauer CFP, MSFP, AIF