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Treasury sets purchase process for bank warrants

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[March 19, 2010]  WASHINGTON (AP) -- The Obama administration on Friday established its process for pricing billions of dollars worth of warrants that large banks must repurchase to exit the $700 billion bailout program.

InsuranceThe Treasury Department said the banks will make the first offer for the warrants. Treasury will then decide to sell at that price or make a counteroffer. If the government and a bank cannot agree on a fair price for the warrants, the two sides will have the right to use private appraisers.

Treasury also could auction to private bidders warrants from banks that choose not to repurchase them.

The banking industry immediately endorsed the plan, while critics said it could short-change taxpayers in the long-run.

The warrants give the government the right to purchase shares of bailed-out banks at a set price in 10 years. If stock prices have risen by then, taxpayers could reap a healthy profit.

But many of the banks already have paid 5 percent dividends on their Treasury investments and have bristled at paying an extra fee for a program they were pressured to join.

Treasury has faced pressure from Congress to get a good return for taxpayers, and from banks not to penalize them just as the industry stabilizes. Friday's announcement reflected a middle path: The purchase prices may be lower than the warrants would fetch on the open market, but they will still cost the banks a substantial amount of money.

"Treasury faces a real dilemma here," said banking consultant Bert Ely. "Taxpayers ought to make some money for the risk they took here, but they were taking that risk for a lot less time than anyone anticipated."

Some of the nation's largest banks, including JPMorgan Chase & Co. and Morgan Stanley, have been eagerly awaiting Treasury's decision. They were among a group of 10 banks that repaid a total of $68 billion in bailout funds last week.

Taxpayers are expected to receive billions of dollars in exchange for the warrants, but negotiations on how to value them have taken longer than expected. That's partly because the value of the underlying bank stock has fluctuated during the financial crisis.

Financial industry officials said they believed the Treasury had come up with an appropriate procedure for determining a fair price.

"It think this is a fair and balanced process that utilizes objective measurements for determining the market value of the warrants," said Scott Talbott, a senior vice president for the Financial Services Roundtable, which represents the largest financial companies in the country.

But critics of the policy said the prices likely will be below market value and could create an appearance that Treasury is influenced too easily by the banks.

"The only sensible way to do this is to let the Treasury set a floor price, and then hold an auction," said Simon Johnson, a former IMF chief economist and professor at the Massachusetts Institute of Technology's Sloan School of Business.

"Treasury shouldn't even want to be involved in price setting," he said.

Under the Treasury guidelines, the banks will have 15 days from when they repaid their bailout funds to submit an offer for what they would be willing to pay to buy back the stock warrants.

Treasury will then have 10 days to respond. If Treasury objects to the bank's offer, it can make a counteroffer, using a range of pricing methods.

If the two sides cannot agree on a price, appraisers for each side will be appointed. If those appraisers remain apart, then a third appraiser will be brought in, according to Treasury's guidelines.

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The department received $68 billion in repayments of bailout funds on June 17. The largest amounts were $25 billion from JPMorgan Chase & Co., and $10 billion each from Goldman Sachs Group Inc. and Morgan Stanley. They now have until the end of June to make an offer for the warrants.

The Government Accountability Office released a report last week calling for more transparency regarding the warrants and the repayment process.

Until the banks buy back the stock warrants that Treasury holds, they remain entangled in a program that has subjected them to limits on executive pay and other restrictions. The banks have complained that the government-imposed rules could hurt their profits and prevent them from hiring or keeping top talent.

Besides JPMorgan, Goldman and Morgan Stanley, the other seven institutions repaying funds last week were: U.S. Bancorp, Capital One Financial Corp., American Express Co., BB&T Corp., Bank of New York Mellon Corp., Northern Trust Corp. and State Street Corp.

Friedman, Billings, Ramsey & Co. analyst Paul Miller said banks in a position to exit the program should not be penalized by paying high prices for the warrants.

"Some of these banks never needed it, never wanted it, took it because the government made them - and now they have to pay the government a fee for doing what they were forced to do," said Miller, who does not own shares of the banks.

To begin the process of leaving the bailout program, the banks had to clear a series of hurdles designed to ensure they would remain viable despite the financial crisis and the recession.

All but Northern Trust underwent government "stress tests" to ensure they had an extra capital buffer in case the recession worsened. The 10 also were required to raise equity from investors and raise debt without a government guarantee.

Despite their relative strength, the banks still rely on government subsidies, including guarantees on debt they already issued and discounted credit lines from the Federal Reserve.

In addition to the $68 billion in bailout funds repaid by the 10 large institutions, another $2 billion has been repaid by smaller banks.

Besides the money they are returning, the banks have paid Treasury more than $2 billion in dividends mandated under the bailout program passed by Congress last October at the height of the financial crisis. The banks were required to pay 5 percent interest on the funds they received for the first five years and then 9 percent interest for any funds they still held after that time.


Copyright 2009 The Associated Press. All rights reserved. This material may not be published, broadcast, rewritten or redistributed.



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