Forbidden Donut

First things first, I'm for this "bailout" even though the term coined by the media is just not true. No firm will be made whole, and the losses they're going to face will be disastrous. Government intervention is an anathema -- not for the firms, but for the global economy.

We need these huge financial corporations to deleverage. Everyone agrees with that. However, no one wants to lever up; and let's be honest, would you? Would you purchase toxic assets that pay little to no interest, that have little to no intrinsic value, and maintain the burden of holding them to maturity (up to 29 years)? No, you wouldn't. You don't have the cash on hand to do so. The government however, does.

As horrendous as this may sound, pragmatism should trump philosophy and we need to look at the current economic situation. TED spreads are outrageously high (past 300), LIBOR is above 6%, gold is moving towards $900, and the Dow fluctuating 2000 points per week (net fluctuations); the global economy appears to be walking on the ledge of an abyss. Congress will not let this happen - they are not ignorant and they understand that philosophical grandstanding will come at a later date. There will be a time where we pay attention to the exorbitant bonuses of executives, but that time is not now. WaMu's demise couldn't have happened at a worse time, even if it was bound to happen. It will play the role as fog over a war-torn battlefield and distract us from making the correct decisions.

It's also important that the $700 billion bill that's been proposed is a MAXIMUM amount, and it is actually possible for the government to purchase these toxic assets at fractions of pennies on the dollar, turn the assets around, hold them to maturity, and make a few hundred billion. The potential for making money off of these situations is possible, not likely, but if managed wisely definitely a possibility. They could, theoretically, start reselling them when the economy turns around in a few years, making 10%. Who would buy them? I'm not sure, but once the housing market turns around, people will want to get their feet wet a little bit by only spending pennies on the dollar.

With regard to economic data, we are fighting off a recession. The leading indicator is unemployment, which has been on the rise. Last week jobless claims shot to 493k (up from 461k). This isn't taking into consideration the current impact of natural disasters (IKE) and how they will affect our unemployment levels. Virtually every single time unemployment has risen above 400,000 a recession either followed quickly or was already extant. This leads to weakness in retail sales as disposable income takes a huge hit. The depression upon the housing industry and the frailty of the big 3 auto makers is probably a good indication that we're going to pass 500,000 unemployed before the new years, and once wall street lays off another 25% and the south recovers from Ike, expect those numbers to increase above 550k. That's greater than 8%. But it is important to realize that we've faced depressions, recessions, and a frightening lack of consumer confidence before -- and our current economic infrastructure has been manipulated over the past 50 years to be resilient, and will bounce back. Don't expect it anytime soon, and don't quit your job as the job market is about to approach the hardest times in the last quarter century.

As you can tell, this 'bailout' isn't for wall street. It's for everybody. It's for the credit markets that have been broken. No one is willing to part with cash which means that the long term economic value of certain credit structures are well below any reasonable estimate. If you claim "let the banks fail" please understand what you're saying. You're worried about taxpayers monies, but not about the average Joe who has a pension fund, IRA, or a savings account. Insurance only covers a certain amount of that. Imagine having a checking/savings account with WaMu and having it be above $100,000. If JPMorgan Chase didn't purchase WaMu, you'd lose anything you had above $100,000. So all that money you saved over the past 30 years? Gone. You're $500,000 retirement fund? Gone. Planning on buying a house? Sorry. Good luck taking a third mortgage at the current rates.

I have no idea what is going to happen with this rescue. All I know is I'll be scared out of my mind if a deal isn't reached, and soon. It's possible that Paulson is going to plug the idea of creating an entity, inject $100 billion in it, have the government manage, run, and maintain it, and have it contain all the toxic assets. In exchange for the toxic assets, the companies who currently own them (before transfer of ownership) will be required to use a large chunk of the $100 billion to invest BACK into the governments entity, in the shape of stock. This would mean whatever happens to the newly formed entity wouldn't affect taxpayers, but the original companies the toxic assets came from (equity shareholders). This would accomplish two things: have minimal affect on taxpayers, and unload the burden of the assets these have on the banks.

Like I said before, I have no idea what's going to happen by today's end, but I'm highly engaged in following the story. I hope after reading this you understand a little bit more, will give the government a little bit more slack in correcting this situation, and realize the ripple effect that the global economy would incur. And please don't say "the stock market has been fine for the past two weeks, I think that means the economy is fine without a bailout." That's just horribly ignorant: people are waiting for a response before taking massive positions. That, and options are at an all time high for most major indices and straddles are very expensive (people expect a major market shift within the next 3 months). Saying that the stock market has been doing decently is the same as saying that the GDP that's going to be announced today is a major indicator of the economy -- it isn't. The GDP figures are going to be 6 months old, and frankly when dealing with what we have on our hands right now, are completely irrelevant.