On the Floor
28 / Sep / 2008
At last, the financial authorities are looking to put together a coherent strategy to if not solve, then shrink, the effects of the credit crunch. On one hand the recent rule changes on both sides of the Atlantic served to underpin financial equities; if you have a short equity position, declare it. At a stroke all those hedge funds that had been shorting (borrowing equities, selling them and then buying back cheaper to repay the equities to the lender) were forced to buy the shares back. The resultant tidal wave of demand took bank stocks on average 30% higher. The new rules here and in the US (an outright ban on shorting 700+ issues) should ensure any new bad news is limited to the bank in question and not the financial system as a whole. Furthermore, the Paulson, Bernanke, Cox plan will allow some $700bln worth of toxic paper to be removed from the system. We expect the proposed legislation will go to the floor of Congress later today with the final vote in the Senate on Wednesday. The plan has been significantly amended since it was first unveiled last week. The Treasury’s largesse will be split into 3 separate tranches with congressional oversight required for the later two. There will be statutory protection for defaulting homeowners, caps on executive pay at applicant companies. Furthermore it is widely expected that the fresh funds will be converted into warrants to give US taxpayers a tangible gain as and when applicant firms recover. Since 25% of the toxic paper is held by our “Clearing Banks” the US government could become the largest shareholder on our financial High Street.
Unfortunately any assistance will be too late for the Bradford and Bingley. The same legislation that took the Northern Rock into Government hands is being used to nationalise the B&B – or at least the mortgage book. The savings and branch network is almost certain to be transferred to Banco Santander. Whilst we have not seen the end of write-downs and turmoil stemming from US mortgage loan losses the Paulson plan may put a hard floor under the whole sorry saga. The plan, in detail and execution, may allow banks to function again and bring money market rates down as economic fundamentals come into focus as the effect of short supply diminishes.