C.M.O. 4.6.2009

Credit Market Overview
April 6, 2009

Amid all the fanfare last week attached to the G-20, stocks crossing the imaginary 20% line that designates bull markets (The Dow creeped above 8,000 at the close while the VIX slipped below 40 at the close on Friday.) and the extremely well received news that there were only 663,000 more people out of work in March than there were in February there were some less heralded but equally significant events

While not specifically last week but still within the first 88 days of our new President’s first term Congress has enacted laws that have expanded health care to an additional 4MM children, another that makes it easier for women to sue for equal pay, the creation of 175,000 new public service positions and the protection of 2MM acres of wilderness; all admirable accomplishments for sure. These were, of course, in addition to a $787BN stimulus package, a $410BN omnibus spending bill and the 2010 budget which weighs in at a mere $3.6TN.

A few other items that did not make the front page include news that D.E. Shaw has paid Lawrence Summers about $5.2MM over the past year as well as the revelation that FNM and FRE will pay about $210MM in retention bonuses to 7,600 employees over the next 18 months. (7,599 of these employees placed there as favors to various members of Congress. JUST KIDDING!).

Given the commotion over similar types of payments to employees of AIG, James Lockhart, director of the Federal Housing Finance Agency defended the bonuses as “vital to retaining talent at the two companies”. This would appear to make total sense as it takes a lot of talent to wrack up only the $108BN in losses the two agencies booked in 2008 which was $42BN less than $150BN attributed to AIG.

The latter, we now all know, attempted to pay out $167MM in retention bonuses; minus of course the amount refunded by Jake DeSantis upon his resignation. Had AIG loosened the purse strings they might have fared better but in the end it was just another case of “you get what you pay for.”

The Federal Reserve came up empty handed last week but this was actually quite a good thing as the Term Securities Lending Facility, TSLF for you acronym addicts, received no bids for the $25BN it offered during Thursday’s auction. Louis Crandall, chief economist at Wrightson ICAP LLC, interpreted it as “a good sign when the Fed’s emergency facilities run off due to a lack of market demand”. But then, when you can “mark to make believe” there aren’t any problem assets left to use as collateral are there?

Also meeting with a lack of enthusiasm was the government’s overture to the banks that have lent Chrysler $6.8BN to swap $5BN of that debt for stock. JPM, GS, C and MS are secured lenders and as such have the right to take control of Chrysler’s plants, brands and other assets which were pledged as collateral if, in the immortal words of Nigel Tufnel in Spinal Tap, “this one goes to eleven”.

Given that, in Chrysler’s case, the parts are greater than the sum the four horsemen mentioned above are taking a tougher stance than either the unions or Fiat in the negotiations. With $2.5BN of Chrysler debt JPM is the largest of any single lender and appears convinced that it and the other lenders would have higher recovery rates in liquidation than the plan proposed by the government. Concerned with the welfare of their own shareholders JPM believes any concessions should be in line with those in a “normal” bankruptcy.

Making this all a tad more interesting is that the four lenders named have all received money from the Troubled Asset Relief Program and although the fact “hasn’t been mentioned, everyone is aware that the issue is there”, a person familiar with the talks was reported to have said by the WSJ on Saturday.

On the subject of things people are aware of but have not mentioned is the control it was feared the government would exert on the recipients of its largess. JPM seems to be having some success at “pushing back” for the moment but others have not been so fortunate.

On the list of quiet happenings this past week was the return of $340MM in TARP funds from four small banks in LA, NY, IA and CA. This would usually be considered a good thing by most but since the numbers aren’t in the trillions, it hardly qualifies as news no less headlines. What did make the news and also prompted Stuart Varney, a host on the Fox Business Channel, to write a piece published by the WSJ on Saturday is that an early recipient of $1BN of TARP money has been trying their damnedest to return those funds. The chairman of the unnamed institution has said he is prepared to write a check for the total amount with interest to the government.

Interestingly his offers have been turned down as Andrew Napolitano, a colleague of Stuart’s at Fox reported; the bank has been threatened with “adverse” consequences if they continue to push to return the money. The crux here is that the government’s initial injection was accomplished via the purchase of a class of preferred stock which gave Uncle Sam a small voting position in the bank.

Mr. Varney’s feeling here is that the government does not want the money returned so that they can keep their voting rights, small as they are, at the bank intact. SV sees this as just the first step in banks being told who to lend to and at what terms.

The prospect Stuart Varney lays out is not a pretty one, at least not from an economic stand point. Jamie Dimon’s actions, in the case of Chrysler at least, seem to run counter to Stuart Varney’s fears. Who will turn out to be right; only time will tell but it could turn into the Billion Dollar Question.

Enjoy the week.

Jim Delaney