Is Obama Bringing Enron to Washington?

I’m not qualified to judge this assessment by a Bay-area based “quant,” but if he’s right, the Geithner plan is more or less a reprise of Enron. You really have to read the whole thing, but here are a few excerpts:

So according to the FT, it appears that the banks selling assets will also be able to bid on each other’s assets.

US banks that have received government aid, including Citigroup, Goldman Sachs, Morgan Stanley and JPMorgan Chase, are considering buying toxic assets to be sold by rivals under the Treasury’s $1,000bn (£680bn) plan to revive the financial system.

The plans proved controversial, with critics charging that the government’s public-private partnership – which provide generous loans to investors – are intended to help banks sell, rather than acquire, troubled securities and loans.

A friend of mine, who used to be on an energy trading desk back in the early 2000s, was listening to me talk about the government plan. He couldn’t believe what I was telling him about letting the banks that are selling auctions also bid on them. In the middle of my explanation, he had his own wave of nostalgia: “Man does that bring back memories….”

Before we go there, what will happen with these banks when they can bid on each other’s assets? Let’s do a thought exercise. Let’s say you are a bidder for Bank A. You know your banking asset is worth $50, and you also know the asset Bank B has is worth $50. You call your buddy up, the trader at B, and make a deal. Happens all the time. You go to bid, and you bid $80 for B’s asset. Then you wait. If B doesn’t come through, you are screwed out a lot of money. And hey, isn’t this wrong? Well, you are pretty sure one of those Rubin-protégé government whiz-kids has given someone who knows someone you know a wink-wink about this. You take a drink, steady the nerves. Then, the bid comes back for your asset – $80 from B. You have each bid up each others assets and traded them. And now the government is screwed. Let’s chart out that payment:

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Yup. Bad news. Bank A pays $6.50 for its new asset because of the leverage , and it loses all of that. It also loses the $50 from not having the asset anymore. However it gains $80, net profit – same as Bank B. The government has paid $73.50 for a $50 asset, twice. (See previous for how the levered non-recourse loan turns into a put option.) We tend to call this collusion if you and I did it.

So why did my energy trading friend get all nostalgic? “Because what you are telling me brings back some great memories from what Enron was up to back in the day. All of us energy traders back then watched with our jaws on the floor. 2000 was a hell of a year.”

The Death Star strategy (yes, they called it that) was where Enron would take a fee for relieving a congested market of its excess supply by moving it elsewhere. Just like our legacy assets! There are too many of them, it is clogging up trade, let’s get them to someone else who wants them. However Enron would just move the energy in a circle, collecting a fee for not doing what it was supposed to. … And, it appears that the large banks are gearing up to do just that; with the Geithner Death Star that they’ll just be collecting a large fee to run them in a circle, without actually moving any of them off their collective books. For old time’s sake, I hope they route their loan bids through Oregon and then Utah before putting them back right where they started.

… In case you are wondering, traders out there are licking their lips to try and find ways to game this even better than Enron.

As I say, there is lots more. A knowledgeable reader comments:

The whole thing is looking like a subterfuge in any event, but this is egregious….the scenario outlined is very plausible to me if they permit holders to bid on other holders’ assets. It’s just so absurd that it is hard to imagine that they would actually propose it….but there you have it….

“Absurd” is a word that finds ever more frequent application to the Obama administration. The scary reality is that Barack Obama is nowhere near smart enough to pull off the schemes that he contemplates. Don’t worry, though: your bank account is standing behind all of his mistakes. Or maybe it’s not a mistake; maybe this is his way of paying back all those contributions he got from Wall Street.

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