How to avoid being taken to the cleaners

... while trying to save the economy?  Lucian Bebchuk offers some ideas, including this:

Suppose that the economy has illiquid mortgage assets with a face value of $1,000 billion, and that the Treasury believes that the introduction of buyers armed with $100 billion could bring the necessary liquidity to this market. The Treasury could divide the $100 billion into, say, 20 funds of $5 billion and place each fund under a manager verified to have no conflicting interests. Each manager could be promised a fee equal to, say, 5% of the profit its fund generates – that is, the excess of the fund’s final value down the road over the $5 billion of initial investment. The competition among these 20 funds would prevent the price paid for the mortgage assets from falling below fair value, and the fund managers’ profit incentives would prevent the price from exceeding fair value. 

Comments

[Pierre]

As long as there is perfect information on the real value of the bonds...

[Per Kurowski]

Great idea that could be further improved by offering a larger percentage of the profits, perhaps 25% but assigning the rights to manage these Funds, according to a bidding process opened to financial experts – if there now is such a thing – and so that these experts also had to face some personal down-side risk.

What is currently most needed in the financial sector is confidence and that can only result from recovering some true accountability. What we need are individuals, willing to risk it all, with unlimited liability, just like the old real "Names" of Lloyd’s.

[Per Kurowski]

Great idea that could be further improved by offering a larger percentage of the profits, perhaps 25% but assigning the rights to manage these Funds, according to a bidding process opened to financial experts – if there now is such a thing – and so that these experts also had to face some personal down-side risk.

What is currently most needed in the financial sector is confidence and that can only result from recovering some true accountability. What we need are individuals, willing to risk it all, with unlimited liability, just like the old real Names of Lloyd’s.

[Thorfinn]

But these managers won't direct capital towards those firms that need capital the most or are best placed to make use of it. Just as Buffett invested in Goldman Sachs, professionals are likely to cherry-pick the best investments from the best firms. And to the extent that this is a business venture rather than a directed bailout, why must the government get involved? There is plenty of capital--in private equity, sovereign wealth funds, hedge funds--waiting to swoop in. Perhaps the Treasury could coordinate private efforts to purchase MBS assets. Or, the Treasury could allow equity investments in the bailout portfolio, reducing taxpayer expense and providing timely data on the status of their investment.

[Per Kurowski]

Thorfin says “But these managers won't direct capital towards those firms that need capital the most or are best placed to make use of it. Just as Buffett invested in Goldman Sachs, professionals are likely to cherry-pick the best investments from the best firms.”

No, they will no be able “to cherry-pick the best investments from the best firms” because the best firms will not let them…that is why they are the best.

The purpose of these Funds is to have persons who might know a little bit more about it than bureaucrats to purchase investments at prices that will not produce losses for the taxpayer…meaning that if taxpayer loses then the Fund manager earns nothing. Most likely they will be buying from financial operators most in need of selling.

By the way, as I see it, this proposal should not be viewed as a complete substitute for other activities such as the creation of markets and a market price for esoteric financial instruments by holding reverse auctions for many specific instruments buying up, for instance 20% of any outstanding of issue 1212, tranche 21.

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[EscTechSite]

One thing that remains clear is that the bailout money will give the banks the money they lost in the sale of the actual houses. Though they still own the actual houses still. They can cover some of these costs later down the road by selling the houses, currently the demand is too low and the supply is pretty high.

But I see what you are saying with creating 20 different accounts and having a 5% profit.

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