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Maxine Waters' Case for the Son of TARP

|Includes: AIG, CIT Group Inc. (CIT), GS, KBE, XLF

The WSJ reports that Congresswomen Maxine Waters (D-CA) was charged by a House Ethics Panel with violating House Rules.  At issue is whether she abused her office to obtain bailout funds for a bank, OneUnited based in Boston, MA.  That bank received $12.1 million in Troubled Asset Relief Program (TARP) funds. While her husband owned a large stake in OneUnited, Ms. Waters was allegedly calling and meeting with then U.S Treasury Secretary Hank Paulson and urging that the U.S. Treasury bail out the insolvent lender.

OneUnited gambled the bank's capital by owning $51.8 million in Fannie Mae (FNM) and Freddie Mac (FRE) preferred stock prior to their government takeover.  After Fannie Mae and Freddie Mac were seized by the government, that stock plummeted in value.  See exhibit 13 on page 67 (86) of the ethics complaint, which says that stock dropped to about $4.8 million in value.  OneUnited Bank was left with NEGATIVE $7.0 million in equity, according to to this spreadsheet, which was mailed by OneUnited bank officials to the U.S. Treasury.

My joint research with Wendy Yan Wu, "Escaping TARP" shows that the average TARP recipient had a tier 1 capital ratio of 11.02 percent.  Before it lost the bank's capital on the Fannie and Freddie preferred stock, OneUnited was near the regulatory minimum of a 5 percent tier 1 capital ratio.  After the mortgage giants were seized to prevent their failure, OneUnited's tier 1 capital ratio was about -1 percent.  In other words, OneUnited was a zombie bank.  The stock owned by Ms. Waters' husband would have been worthless without a government rescue and forbearance from regulators.

Yet, despite knowing that OneUnited had negative equity, and thus did not meet even the minimum capital requirements to be open for business, the U.S. Treasury invested $12.1 million of taxpayers' dollars in this zombie bank on December 19, 2008.  Ms. Waters' alleged use of her position to enrich herself at taxpayer expense is troubling.  So is the U.S. Treasury's ultimate investment in OneUnited Bank based in House Financial Services Committee Chairman's, Barney Frank's (D-MA), district.  My paper "TARP's Deadbeat Banks" shows that OneUnited has missed five straight dividends.  If it misses its sixth dividend, the U.S. Treasury will have the right to appoint two new directors to the banks' board.  Taxpayers representatives probably will soon be holding a board seat at OneUnited like Ms. Waters husband once held.

Ms. Waters' and Mr. Frank's are among those who are attempting to pass legislation to invest up to $30 billion in banks like OneUnited.  An amendment pushed by U.S. Senator George LeMieux (R-FL) says that banks on the Federal Deposit Insurance Corporation's (FDIC's) problem bank list can get access to taxpayer funds, if they get matching amounts of private capital in the amended "Son of TARP" bill.  CIT Group raised private capital prior to receiving TARP funds, and it failed nevertheless.  Should we give Mr. LeMieux, Ms. Waters, and Mr. Frank another $30 billion slush fund to play with?

Disclosure: I only have long positions in broad-based index funds. I do not own individual securities issued by the companies mentioned.