Smoke and Mirrors

Just to follow up on my "smoke and mirrors" comment, here's a post from Marketwatch:

Fed: TARP injection is high-level capital
Ronald D. Orol

WASHINGTON (MarketWatch) - The Federal Reserve on Friday adopted a rule that will allow banks receiving capital from the bank bailout fund to consider some of the financial injections they have received to be a high-level of capital.

According to the Federal Reserve, banks can consider senior perpetual preferred stock they have received from the Treasury Department as grade-A, Tier 1 capital, the kind of assets a bank needs to have lots of. Private preferred equity stakes are often considered Tier 2, a lower form of capital, while common equity has traditionally been considered Tier 1 capital.

However, the Treasury is considering the preferred stake investments it has been making in banks to be considered Tier 1. As the financial crisis has worsened, some banks in the program have found that their common equity value has diminished, making the government preferred investment a larger percentage of their Tier 1 Capital. Banks typically need to have a large percentage of their risk-weighted assets as Tier 1.

In a nutshell, the Fed has once again changed the rules--just as FASB changed its rules on mark-to-market accounting in the middle of the crisis--and made it easier to show banks as solvent. Fact is, if the stress tests were accurate, they would not have had to change anything.

Bottom line: what investor worth their weight is going to trust the United States Federal Government for anything that has to do with investment in this country? Only the bondholders who might be able to get something out of it--which the Fed is choosing itself in the Geithner's Public-Private Investment Partnership Fund.

As mentioned in the previous blog, with attribution to "Mish," bondholders will purchase toxic assets at a discount with government backing, put them in a Special Purpose Entity, and not lose the full 100 percent on them. When they regain their value, probably in 10 years, they will not have lost anything. The taxpayers? That's another story.

And a correction to that posting. The bank will not be buying the assets, the bondholders will.