Alexandra Zendrian

Alexandra Zendrian, Subscriber

7/08/2010 @ 11:00AM

Bank Bailouts Revisited

The Troubled Asset Relief Program was originally meant to help rid banks of their most toxic holdings in the turbulent fall of 2008. Ultimately it morphed into the Treasury Department pumping hundreds of billions of dollars into the financial system to keep firms from going the way of Lehman Brothers and the global economy from collapsing.

Now that a large portion of TARP money has been repaid, the focus has shifted to how to keep the government from being forced into another round of bailouts when the next crisis hits. Under the financial reform legislation recently passed by the House of Representatives, the TARP would be wrapped up early and banks will be charged a financial crisis recovery fee designed to form their own backstop for the next meltdown.

Keefe, Bruyette & Woods expects banks to shell out $90 billion to restore the FDIC insurance fund to $70 billion, from its current $20 billion deficit. KBW analyst Fred Cannon predicts the financial crisis recovery fee will be applied to banks based on their asset base, with those that control over $10 billion in assets shouldering more of the load.

This financial crisis recovery fee could lower the industry’s earnings by 5% over the next five to ten years, Cannon says, since it will likely be applied over time. As a whole the banking sector only earns about $150 billion a year in a healthy economy, Cannon continues, so a $90 billion hit spread over just a year or two would be a heavy burden during a tepid recovery. (See “Bank Mergers After TARP.”)

While a major focus of the financial reform currently working through Congress is keeping the U.S. government from having to rescue financial institutions in the future, intervention during the most recent crisis has produced a handful of winning bets for the taxpayer. To be fair the billions poured into Fannie Mae and Freddie Mac may be sunk costs, and the jury is still out on all the dough directed towards AIG , which is among 98 institutions that have failed to pay their most recent TARP dividends, and the automakers, but when it comes to the banks the Treasury has gotten a decent return on its money.

There are six institutions that have generated more than a 20% return on the TARP investment, including heavyweights American Express and Goldman Sachs . Paying back Uncle Sam also has benefits for the companies, KBW says, noting that those banks have fully repaid TARP have outperformed the S&P 500 Financial Sector by an average of 5.5%.

In Pictures: Cashed-In TARP Tickets

On the flip side, a number of holdouts are still hanging onto TARP funds received under the Capital Purchase Program. Of the $205 billion the Treasury doled out to 707 banks, $137 billion has been repaid. From the 61 banks that have fully repaid, the Treasury has earned a tidy $13 billion profit.

In Pictures: Banks Still Running On Taxpayers’ Dime

Among those that still have to repay the funds received under the CPP, Citigroup accounts for $25 billion. The Treasury has been generating some return from its investment in the bank though, selling shares of Citi it received when it converted warrants into common shares to provide the firm an additional capital boost. (See “Treasury Sells More Citi.”) Cannon says the Treasury “will get a pretty good return” from selling its stake in Citi but warns that it is premature to make a specific estimate.

With so many firms having repaid taxpayers, what’s holding up the rest of the group? “Some of the banks that haven’t repaid TARP still have significant commercial real estate exposure,” Cannon says, “so the banks and the Treasury are holding back on having those payments made.” Because the only thing worse than having to bail out the banking system, would be to have to do it over and over again.

In Pictures: Cashed-In TARP Tickets

In Pictures: Banks Still Running On Taxpayers’ Dime

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