1. "Investment after tragedy," (2006), Economics Bulletin, Vol. 4, No. 18, pp. 1-7.
2. "Hidden Debt and the Selectivity of Professional Partnerships," (2008), Quarterly Journal of Finance and Accounting, Vol. 47, No. 4, pp. 25-56.
3. "Business Stealing and Bankruptcy," (2009), International Business & Economics Research Journal, Vol. 8, No. 3, pp. 59-76.
4. "Moonlighting Entrepreneurs," (2009), Economics Bulletin, Vol. 29, No.3, pp. 1900-1907.
5. "Should Goldman Sachs and Morgan Stanley Try to Get Half Price on the TARP Warrants?" (2009), Journal of Finance and Accountancy,Vo1. 2, pp. 1-8.
6. "The Goldman Sachs Warrants," (2009), Review of Business Vol. 30, No. 1, Fall, pp. 4-32. (lead article)
7. "The Put Problem with Buying Toxic Assets," (2010), Applied Financial Economics, Vol. 20, No. 1-2, pp. 31-35.
8. "The Biggest Warrant Auction in U.S. History," (2010), Research in Business and Economics Journal, Vol. 2, pp. 1-12.
9. "Common (Stock) Sense about Risk-Shifting and Bank Bailouts," with Yan Wendy Wu, (2010), Financial Markets and Portfolio Management, Vol. 24, No. 1, pp. 3-29. (lead article)
10. "Free Exit and Social Inefficiency," (2010), Journal of Business & Economics Research, Vol. 8, No. 3, pp. 117-122.
11. "Slicing the Toxic Pizza: An Analysis of FDIC’s Legacy Loan Program for Receivership Assets," (2010), International Journal of Monetary Economics and Finance, Vol. 3, No. 3, pp. 300-309.
12. "Fixed Cost Efficiency with Infinitesimal Competitors," (2010), Applied Economic Letters, Vol. 17, No. 7, 667-671.
13. "A Model for Estimating the Cancellation Probabilities of TARP Warrants," (2010), Advances in Accounting, Finance, and Economics, Vol. 3, No. 3, pp. 1-15.
14. "The Weight of Bad Governance in Foreign Mutual Funds," (2010), Applied Economic Letters, Vol. 17, No. 12, pp. 1189-1192.
15. "Troubling Research on Troubled Assets: Charles Zheng on the U.S. Toxic Asset Auction Plan," (2011), Economic Journal Watch, Vol. 8, No. 1., Vol. 8, No. 1., pp. 33-38.
16. "Estimating JP Morgan Chase’s Profits from the Madoff Deposits," with Lou Davis, (2011), Risk Managament and Insurance Review, Vol. 14, No. 1, pp. 107-119.
17. "Selling Citigroup: A Simulation of the U.S. Treasury’s $37 Billion TARP Share Sale," (2011), Review of Business, Vol. 31, No. 2.
18. "Financing Professional Partnerships," 2010, forthcoming Journal of Economics and Finance
19. "Sunk Cost Efficiency with Discrete Competitors," accepted by the Southwestern Economic Review
20. "Escaping TARP," with Yan Wendy Wu, accepted by the Journal of Financial Stability
21. "Hard Debt, Soft CEOs, and Union Rents," accepted by Managerial Finance
22. "Anchoring Bias in the TARP Warrant Negotiations," accepted by the Journal of Economics of Business
23. "Stock Demand Curves and TARP Returns," accepted by the Journal of Financial Economic Policy
24. "A Binomial Model of Geithner’s Toxic Asset Plan," accepted by the Journal of Economics of Business
25. "Debt Overhang and Bank Bailouts," accepted by the International Journal of Monetary Economics and Finance
"Executive Options with Inflated Equity Prices"
"Good Timing? How One Bank Cut Its Link to a $1.2 Billion Ponzi Scheme"
"Lessons for the TARP Warrants from 1983 Chrysler Auction"
"Managerial Ownership with Rent-Seeking Employees"
"Political Influence and TARP Investments in Credit Unions"
"Toxic Asset Subsidies and the Early Redemption of TALF Loans"
"Valuing the First Negotiated Repurchase of the TARP Warrants"
"Anchoring Bias in TARP Warrant Negotiations"accepted by the Journal of Economics of Business
Abstract
Fifty-two publically traded banks exited the Troubled Asset Relief Program (TARP) in 2009, and most of them successfully repurchased the warrants that they issued to U.S. taxpayers. This paper finds that banks that offered lower opening bids were rewarded with significantly lower warrant repurchase prices in transactions that raised $2.856 billion. These results were scaled by third-party consultants’ and the Congressional Oversight Panel’s estimates of the warrants’ value. In contrast to the experimental psychology studies on anchoring bias in negotiations, these are real transactions involving large sums of money. This paper finds that larger banks paid significantly higher prices, and the U.S. Treasury obtained better prices over time.
Keywords: anchoring bias, behavioral economics, behavioral finance, alternating offers, bailout, banks, banking, bargaining, bids, Capital Purchase Program (CPP), Emergency Economic Stabilization Act (EESA), heuristics, negotiations, offers, options, Troubled Asset Relief Program (TARP), valuation, warrants
JEL Classifications: D03, C78, G01, G13, G21, G28, G32, G38
"The Biggest Warrant Auction in U.S. History," (2010), Research in Business and Economics Journal, Vol. 2, 1-12.
Abstract
This paper analyzes the results from the secondary market trading of the warrants (COF-WS) issued by Capital One Financial (COF). These warrants were obtained by the U.S. Treasury as part of the Troubled Asset Relief Program’s (TARP)’s Capital Purchase Program (CPP). The relationship between various volatility measures and the secondary market prices of the Capital One warrants are used to estimate the likely value of the JP Morgan Chase (JPM) warrants, which are scheduled to be auctioned on December 10, 2009, and the TCF Financial (TCB) warrants that are scheduled to be sold to the public before the end of December 2009. The JP Morgan auction, if it sells all 88.4 million warrants at or above the reservation price of $8 per warrant, will be the biggest warrant auction in U.S. history.
Keywords: bailout, banks, banking, Capital Purchase Program, Emergency Economic Stabilization Act, options, TARP, valuation, warrants, Capital One Financial, J.P. Morgan Chase, TCF Financial
JEL Classifications: G01, G13, G21, G28, G32, G38
"A Binomial Model of Geithner’s Toxic Asset Plan," accepted by the Journal of Economics of Business
Abstract
This paper formally models the Public Private Investment Partnership (PPIP), a plan for U.S. government sponsored purchases of distressed assets. This paper solves both the problem of the asset manager buying toxic assets and the banks selling toxic assets. It solves for the fair market value of toxic assets implied by subsidized toxic asset auctions, and it estimates the size of the government’s subsidy. Moreover, this paper finds under what circumstances banks and asset managers will meet at a mutually acceptable prices. In general, healthier banks will be more willing sellers of toxic assets than zombies.
Keywords: bailout, banking, CMBS, CDOs, EESA, Emergency Economic Stabilization Act, lending, mortgages, Public-Private Investment Partnership, PPIP, TARP, RMBS, too big to fail, toxic assets, zombies
JEL Classifications: G12, G13, G18, G21, G28, G38
"Common (Stock) Sense about Risk-Shifting and Bank Bailouts," with Yan Wendy Wu, (2010), Financial Markets and Portfolio Management, Vol. 24, No. 1, pp. 3-29. (lead article)
Abstract
If a bank faces potential insolvency, it will be tempted to reject good loans and accept bad loans to shift risk onto its creditors. We analyze effectiveness of buying up toxic mortgages in troubled banks, buying preferred stock, and buying common stock. If bailouts for banks that are deemed “too-big-too-fail” involve buying assets at above market values, then these banks are encouraged ex ante to gamble on bad assets. Buying up common (preferred) stock is always the most (least) ex ante- and ex post-efficient type of capital infusion whether or not the bank volunteers for the recapitalization.
Keywords: banks, bailout, lending, risk-shifting, TARP, too-big-to-fail
JEL Classifications: G21, G28, G38
"Debt Overhang and Bank Bailouts," forthcoming in the International Journal of Monetary Economics and Finance
Abstract
When a bank is deemed “too-big-to-fail” by regulators, it may be tempted to buy risky assets. This paper analyzes bank bailouts involving the purchases of toxic assets, preferred stock, and common stock when the government wants to encourage efficient lending. It finds that preferred stock recapitalizations are the least efficient in correcting debt overhang problems from both an ex post and ex ante perspective. In contrast, efficient lending and voluntary participation can be best achieved without subsidy by purchasing either toxic assets or common stock. Nevertheless, troubled banks must be subsidized if they will voluntarily participate in any recapitalization.
Keywords: bailout, banking, debt overhang, common stock, Capital Purchase Program, lending, preferred stock, TARP, too-big-to-fail, toxic assets
JEL Classifications: G21, G28, G38
"Escaping TARP," with Yan Wendy Wu, forthcoming Journal of Financial Stability
Abstract
This paper studies the factors that were associated with a bank’s early exit from TARP in 2009. We find that larger publicly traded banks with better accounting performance, stronger capital ratios, and fewer troubled loans exited early. Banks that raised private capital in 2009 were significantly more likely to return the taxpayers’ money early. We find that the original eight TARP recipients, which received $165 billion of the $245 billion passed out, had weak tangible common equity ratios at the end of 2008, relative to other TARP recipients. Those eight banks raised common equity capital in 2009, and all at least partially exited the government’s embrace. While executive pay restrictions were often a rationale cited for early TARP exit, we can only find that CEO pay was significantly higher in banks exiting TARP in univariate tests. These CEO pay metrics were insignificant in multivariate regressions.
Keywords: bailout, banks, banking, Basel capital standards, callable bonds, capital ratios, Capital Purchase Program (CPP), dividends, Emergency Economic Stabilization Act (EESA), hybrid securities, investment, preferred stock, Targeted Investment Program (TIP), Troubled Asset Relief Program (TARP), U.S. Treasury, warrants
JEL Classifications: G01, G13, G21, G28, G32
"Estimating JP Morgan Chase’s Profits from the Madoff Deposits," with Lou Davis, (2011), Risk Managament and Insurance Review, Vol. 14, No. 1, pp. 107-119.
Abstract
JP Morgan Chase allegedly had deposits from Bernard L. Madoff totaling $5.5 billion at one point in 2008. The Chase account was supposedly where most of the funds in his Ponzi scheme were deposited. Any large deposit can be a considerable source of profit to a bank. Assuming that the deposits returned the bank’s net interest margin and grew at a random geometric rate, this paper estimates that JP Morgan Chase generated $483 million in after-tax profits from this very large account over the course of sixteen years. With JP Morgan Chase the target of pending lawsuits relating to the Madoff fraud, this paper’s methodology and results may be of interest to litigants, prosecutors, journalists, and academics.
Keywords: deposits, fraud, JP Morgan Chase, litigation, Madoff, Monte Carlo simulation, net interest margin
JEL Classifications: G01, G21, G24, K13, K14, K23, K41, K42
"Executive Options with Inflated Equity Prices" (pdf file 225 KB) with Yan Wendy Wu
Abstract
This study solves the optimal managerial compensation problem when shareholders are either naïvely optimistic or rational. The results suggest that boards of directors should decrease option grants to CEOs when equity is likely to be irrationally overvalued at the date when the CEO’s options vest. The implications of the model are consistent with the available empirical evidence. In addition, the model generates new testable predictions about managerial stock price manipulation, the number of options granted, and the magnitude of the options’ strike prices that have not yet been formally tested.
Keywords: behavioral finance, CEO, executive compensation, fraud, options, strike price
JEL Classifications:G01, G13, G21, G28, G32
“Financing Professional Partnerships,” forthcoming in the Journal of Economics and Finance
Abstract
Increases in net-debt obligations of profit sharing partnerships give these organizations a strong incentive to expand. Unlike corporations, partnerships can signal their hiring intentions to uninformed clients by their capital structure choices. Levin and Tadelis (2005) predicts that professional service firms with fewer informed clients will tend to choose the partnership form. The present paper demonstrates that this prediction holds when capital structure in the partnership is transparent and financial frictions are present.
Keywords:capital structure, information, partnerships, profit sharing
JEL Classifications:G32, G34, L15, L2
“Fixed Cost Efficiency with Infinitesimal Competitors,” (2010), Applied Economic Letters, Vol. 17, No. 7, 667-671.
Abstract
Suppose that infinitesimal firms have identical variable costs but there is heterogeneity in their fixed costs. Regardless of the ordering of entry and exit, fixed costs will be minimized for a given industry size.
Keywords:Sunk Costs, Entry, Exit, Market Structure
JEL Classifications: L11 & L13
“Free Exit and Social Inefficiency,” (2010), Journal of Business & Economics Research, Vol. 8, No. 3, pp. 117-122.
Abstract
Mankiw and Whinston (1986) shows that free entry is socially excessive entry when firms have fixed costs and produce identical goods. Here it is shown that weakly too few firms exit voluntarily when some of the fixed costs are recoverable.
Keywords:Entry, Exit, Market Structure, Oligopoly, Sunk Costs, and Welfare
JEL Classifications:D43, D62, & L13
"The Goldman Sachs Warrants," (2009), Review of Business, Vol. 30, No. 1, Fall 2009, pp. 4-32. (lead article)
Abstract
This paper values the Capital Purchase Program (CPP) and Berkshire Hathaway warrants issued by Goldman Sachs in 2008. The paper’s methodology could be of interest to policy makers, non-profits, journalists, and advisors for the government and the over 500 banks with CPP warrants outstanding.
Keywords: bailout, banks, banking, Capital Purchase Program, Emergency Economic Stabilization Act, Goldman Sachs, options, TARP, too big to fail, valuation, warrants
JEL Classifications: G01, G13, G21, G28, G32, G38
"Good Timing? How One Bank Cut its Link to a $1.2 Billion Ponzi Scheme", with Lou Davis (pdf file 120 KB)
Abstract
On September 17, 2009, Boston Private Financial Holdings (BPFH) sold its Coral Gables, Florida based Gibraltar Private Bank & Trust subsidiary for $93 million. On October 27, 2009, Scott Rothstein fled to Morocco on a private jet before turning himself in to authorities. Mr. Rothstein has subsequently pled guilty to running a $1.2 billion Ponzi scheme with substantial deposits at Gibraltar Bank. Scott Rothstein had a 5 percent equity stake in the group that bought Gibraltar Bank from BPFH. Investors cheered the news of the sale producing a 27 percent one-day return after the Gibraltar Bank sale was released, adding over $100 million of market value overnight. Using a geometric Brownian motion model of the stock price, we find there is less than a 0.01 percent chance that this was a random swing in the stock price. This sale, nevertheless, may not shield BPFH from legal liability from Mr. Rothstein’s four-year Ponzi scheme.
Keywords: banks, Bernard L. Madoff, Boston Private Financial Holdings, BPFH, deposits, fraud, Gibraltar Private Bank & Trust, money laundering, Ponzi scheme, SEC, Scott Rothstein, TD Bank
JEL Classifications: G01, G12, G13, G14, G21, G33, K13, K14, K22
"Hard Debt, Soft CEOs, and Union Rents," accepted by Managerial Finance
Abstract
Bond covenants may constrain managers from acquiescing to union wage demands. Yet, because high wages and high levels of worker discipline are substitutes, unions can win higher wages by raising the cost of detecting slack workers. In this case, shareholders may be better off delegating to a CEO with different objectives than their own. A top manager motivated to share surpluses with workers—a “soft” CEO—can encourage union members to adopt efficient production methods. In this context, shareholder value may be maximized by CEO incentive contracts with limited upsides, lower levels of pay, and some entrenchment protections.
Keywords: capital structure, CEO compensation, corporate control, entrenchment, efficiency wages, hostile takeovers, and unions
JEL Classifications: D23, G32, G34, K22, L2
"Lessons for the TARP Warrants from 1983 Chrysler Auction" (pdf file 35 KB)
Abstract
This paper discusses the rationales for why auctions are a better way to sell the TARP warrants than negotiations. Despite the fact that 1983 Chrysler warrant auction resulted in an implied volatility of less than zero, it generated higher prices for taxpayers than the current TARP warrant negotiations. The author estimates that the 1983 Chrysler warrant auction generated 91 percent of the theoretical value of the warrants. This is much more than the 66 percent of fair market value that the Congressional Oversight Panel estimates for the first eleven negotiated repurchases of the TARP warrants.
Keywords: auctions, bailout, banks, banking, Capital Purchase Program, Chrysler, EESA, Emergency Economic Stabilization Act, JP Morgan, options, TARP, Troubled Asset Relief Program, valuation, warrants
JEL Classifications: A44, G01, G13, G21, G28, G32, G38
"Managerial Ownership with Rent-Seeking Employes" (pdf file 120 KB)
Abstract
The traditional agency problem advocates 100 percent share ownership when managers are risk-neutral, and managers either have enough wealth to buy the firm outright or have access to perfect capital markets. This paper says that delegation to the disinterested managers may sometimes explain the separation of ownership and control even before one considers diversification motives or credit market imperfections. High levels of managerial share ownership may induce rent-seeking employees to obstruct monitoring. Delegation to a disinterested manager with lower levels of share ownership makes firms more valuable than retaining a CEO-level agent that thinks like a 100 percent owner.
Keywords: CEO compensation, contracts, corporate control, shareholders, rent-seeking, and unions
JEL Classifications: D23 & G34
"A Model for Estimating the Cancellation Probabilities of TARP Warrants," (2010), Advances in Accounting, Finance, and Economics, Vol. 3, No. 3, pp. 1-15.
Abstract
Under the Capital Purchase Program (CPP), U.S. taxpayers hold warrants issued by over 270 publicly traded banks. The provisions of the CPP allow for half of the warrants to be cancelled if the recipient bank issues enough preferred or common stock by the end of 2009. This paper develops a model to estimate the probability of a qualified equity issuance that is consistent with standard option pricing techniques. The model is based on the transaction costs of issuing new equity and can be solved numerically.
Keywords: bailout, banks, banking, Capital Purchase Program, Emergency Economic Stabilization Act, options, TARP, valuation, warrants
JEL Classifications: G01, G13, G21, G28, G32, G38
"Political Influence and TARP Investments in Credit Unions" (pdf file 91 KB)
Abstract
Forty-eight credit unions received capital injections as part of the financial sector bailout. The predicted probability of receiving bailout funds jumps from 23 percent to 76 percent for the typical credit union, if the institution’s headquarters was in the district of a member of the U.S. House Financial Services Committee (HFS). The credit unions receiving funds were significantly less likely to lend out their deposits, contrary to the goals of the program. These results indicate that political influence may be an important determinant of which institutions receive taxpayer funds.
Keywords: bailout, cooperatives, credit unions, CDCI, CDFI, Community Development, Capital Initiative. Community Development Financial Institution, EESA, Emergency Economic Stabilization Act, politics, subordinated debt, SBLF, Small Business Lending Fund, U.S. House Financial Services Committee, TARP
JEL Classifications: G21, G28, G38
"The Put Problem with Buying Toxic Assets," (2010), Applied Financial Economics, Vol. 20, No. 1-2, pp. 31-35.
Abstract
This paper uses the option pricing arguments of Merton (1974) to demonstrate that even solvent banks will be reluctant to sell volatile, toxic assets at market prices. Banks’ shareholders have insolvency puts that give them limited liability in the event of default. The insolvency puts are more valuable when the banks’ assets are more volatile. Shareholders in banks will require any buyer to pay for the lost volatility as well as the market price of the toxic assets. Thus, taxpayers must be ready to richly overpay if they want banks to voluntarily part with their toxic assets.
Keywords: TARP, too-big-to-fail, toxic assets, mortgage securities, FDICIA
JEL Classifications: G01, G13, G21, G28, G32
"Selling Citigroup: A Simulation of the U.S. Treasury’s $37 Billion TARP Share Sale" (pdf file 50 KB)
Abstract
On April 26, 2010, the U.S. Treasury had 163 trading days to sell a $37 billion dollar stake of 7.7 billion shares in Citigroup. Citigroup’s stock price on April 23, 2010, was well above the U.S. Treasury’s “break even” price of $3.25. The U.S. Treasury announced that it planned an at-the-market sale over about six months. This paper uses Monte Carlo simulations to argue that the U.S. Treasury bore a 17 percent chance of not completing the sale if it refused to sell its shares at a loss and sold no more than 50 million shares per day. The author argues the government could have had less downside and idiosyncratic risk by selling a significant fraction of its holdings in an underwritten offering early in the selling period.
Keywords: Bailout, Banks, Block Trades, Brownian Motion, Citigroup, Dark Pools, Electronic Trading, Exchange Offers, Monte Carlo, Privatization, Simulation, Troubled Asset Relief Program, TARP, Secondary Offerings, SEOs, U.S. Treasury, Underwriting
JEL Classifications: G01, G13, G21, G28, G32
"Slicing the Toxic Pizza: An Analysis of FDIC’s Legacy Loan Program for Receivership Assets" (pdf file 73 KB); accepted by the International Journal of Monetary Economics and Finance
Abstract
The Legacy Loans Program is an elaborate way of slicing the FDIC’s receivership assets. At best, the financial structure is irrelevant to the FDIC’s expected long-run recovery rates. Yet, it may boost short-term prices by creating bond insurance liabilities that will come due several years down the road. If the private investor can increase the value of the toxic loans through non-contractible investments, then the public equity stake and subsidized leverage may hinder the FDIC from obtaining the best recovery rates from these troubled loan portfolios.
Keywords: Banks, FDIC, LLP, Legacy Loans Program, loans, mortgage securities, PPIP, Public Private Investment Partnership, real estate, receivership, TARP, toxic assets
JEL Classifications: G01, G13, G21, G28, G32
"Stock Demand Curves and TARP Returns" accepted by the Journal of Financial Economic Policy (pdf file 78 KB)
Abstract
This study uses a unique natural experiment to contribute to the long-running debate as to whether the demand curves for stocks slope downward. The U.S. Treasury’s large share sales of Citigroup’s common stock during trading hours in April, May, and June of 2010 coincided with significantly higher volumes of shares traded. Yet, there is little evidence that the demand curve for Citigroup’s stock has a negative slope. The share price declines over that selling period are not abnormal given the implied volatility of the shares and the broader market decline that occurred at the time. This indicates that “dribble-out” privatizations of Citigroup, General Motors, Chrysler, and GMAC may not hurt those firm’s stock prices.
Keywords: Bailout, Banks, Bank of America, Block Trades, Brownian Motion, Chrysler, Citigroup, Demand Curves, General Motors, GMAC, Privatization, Troubled Asset Relief Program, TARP, Secondary Offerings, SEOs, U.S. Treasury
JEL Classifications: G01, G13, G21, G28, G32
"Sunk Cost Efficiency with Discrete Competitors" (pdf file 56 KB); accepted by the Southwestern Economic Review
Abstract
When entrants only differ in their exogenous entry costs, the order in which potential firms enter does not affect industry size. With discrete competitors, entry orderings can affect total sunk costs and the identity of entrants. A necessary and sufficient condition is established for sunk, entry costs in the industry to be minimized, regardless of entry ordering.
Keywords: Sunk Costs, Entry, Market Structure
JEL Classifications: L11 & L13
Abstract
Eighty-two banks that received funds from the Troubled Asset Relief Program’s (TARP)’s Capital Purchase Program (CPP) failed to pay scheduled preferred stock dividends or interest on their subordinated debt in February 2010. This is an increase from the fifty-six banks that failed to pay dividends or interest at the last quarterly dividend payment in November 2009. In February 2010, 11.6 percent of the 707 banks that received CPP investments failed to make their payments. Since sixty banks had exited TARP by the end of February 2010, one-eighth of the banks remaining in TARP were behind in their payments to taxpayers.
Keywords: bailout, banking, debt overhang, Capital Purchase Program, Emergency Economic Stabilization Act, lending, preferred stock, subordinated debt, TARP
JEL Classifications: G21, G28, G38
"TARP's Dividend Skippers" with Dobrina Georgieva
Abstract
Most of the banks receiving capital injections from the Troubled Asset Relief Program (TARP) issued preferred stock to taxpayers. This paper looks at the factors that affect publically traded banks’ ability to pay the scheduled TARP preferred stock dividends. Smaller banks with weaker capital ratios and more problem loans are significantly more likely to suspend payments of their bailout dividends.
Keywords: bailout, banking, debt overhang, Capital Purchase Program, Emergency Economic Stabilization Act, lending, preferred stock, subordinated debt, TARP
JEL Classifications: G21, G28, G38
"Toxic Asset Subsidies and the Early Redemption of TALF Loans"
Abstract
This paper develops a formula to numerically estimate the unsubsidized, fair-market value of the toxic assets purchased with Federal Reserve loans. It finds that subsidy rates on these loans were on average 33.9 percent at origination. Yet, by the 3rd quarter of the 2010, there was on average no subsidy in TALF loans. The theoretical model is used to predict the early redemption of Term Asset-Backed Securities Loan Facility (TALF) loans used to purchase commercial mortgage backed securities (CMBS). The predictions of the model are strongly supported by the data. In addition, this paper looks at the determinants of early redemption. CMBS originated inside the peak bubble years of 2005-2007 were much less likely to be redeemed early. The giant investment managers, Blackrock and PIMCO, were much more likely to redeem their TALF loans early than smaller investment managers.
Keywords: Alternative Investments, Bailout, Banking, Blackrock, Call Options, Commercial Mortgage Backed Securities, CMBS, CDOs, Dodd-Frank, EESA, Emergency Economic Stabilization Act, Lending, Legacy Securities Program, Mortgages, PIMCO, PPIP, TARP, Troubled Asset Relief Program
JEL Classifications: G12, G13, G18, G21, G28, G38
"Troubling Research on Troubled Assets: Charles Zheng on the U.S. Toxic Asset Auction Plan" (2011), Economic Journal Watch, Vol. 8, No. 1.
Abstract
Charles Zhoucheng Zheng’s “The Default-Prone U.S. Toxic Asset Auction Plan” (Zheng 2009) seems to be a simple case of getting reality wrong when claiming relevance for a model. The paper claims to model the policy announced by the U.S. Treasury on March 23, 2009, to buy up to $500 billion to $1 trillion of toxic assets through a Public Private Investment Partnership (PPIP). In the model, “moderately poor bidders outbid rich bidders in such auctions,” because Zheng assumes that all of a borrower’s assets are at risk if they default on the government loan. Thus, says Zheng: “After defeating their rich rivals and acquiring the toxic assets, such bidders will default on government-provided loans whenever the toxic assets turn out to be unsalvageable” (abstract). The chief trouble with the paper is that the assumptions do not fit reality. In reality, the government-provided loans used to buy toxic assets are nonrecourse, allowing the borrower to walk away from the loan with no penalties besides ceding the asset that the loan purchased. Thus, there is nothing to make rich bidders less ready to win the auction, and Zheng’s equilibrium in which less well endowed borrowers win toxic asset auctions is irrelevant.
Keywords: bailout, banking, CMBS, CDOs, EESA, Emergency Economic Stabilization Act, lending, mortgages, Public-Private Investment Partnership, PPIP, TARP, RMBS, too big to fail, toxic assets, zombies
JEL Classifications: G12, G13, G18, G21, G28, G38
"Valuing the First Negotiated Repurchaseof the TARP Warrants" (pdf file 50 KB)
Abstract
Old National Bancorp was the first publicly traded bank to buy back its Capital Purchase Program (CPP) warrants. It paid $1.2 million, which is below the low-end of this paper’s estimates of the fair market value of the warrants. This paper estimates the warrants are worth between $1.9 and $6.9 million. This low negotiated price from the perspective of taxpayers indicates that the U.S. Treasury would have probably gotten a better price marketing those warrants to third party investors.
Keywords: bailout, banks, banking, Capital Purchase Program, Emergency Economic Stabilization Act, financial crisis, options, TARP, Troubled Asset Relief Program, valuation, warrants
JEL Classifications: G01, G13, G21, G28, G32, G38
"The Weight of Bad Governance in Foreign Mutual Funds" (pdf file 50 KB); forthcoming Applied Economics Letters
Abstract
Empirical studies show that mutual funds are less likely to hold poorly governed foreign stocks. This theoretical model shows that foreign mutual fund managers will optimally lower their weight of badly governed stocks because they have higher costs of actively managing these holdings than their domestic rivals.
Keywords: active management, corporate governance, foreign stocks, mutual funds, portfolio management
JEL Classifications: F3, G11, G23, & G34
Essays on the Financial Governance of Firms