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"It's very hard to lose money on a transaction like that"
After the savings and loan crisis of the late '80s and early '90s, the government was criticized for unloading assets of failed thrifts at prices that created a bonanza for some of the investors who bought them. Now the Federal Deposit Insurance Corp. and its chairman, Sheila C. Bair, are selling assets of failed banks at deep discounts. And some of the same investors who profited on the S&L loans are buying them. But this time the government is making sure the taxpayer gets to share in any upside.
Instead of selling the loans outright, the FDIC kept stakes of at least 50% in five loan portfolios marketed in the last six months. "They are doing a much better job this time around," says John Bovenzi, the FDIC's chief operating officer until last year, who also helped unwind the S&L crisis. "They have learned a lot."
The FDIC has seized more than 195 banks since the beginning of 2009. The loans that came with those banks are mostly tied to commercial real estate and residential development. In many cases borrowers have stopped making payments. To make the loans more enticing, the FDIC has offered some buyers zero-percent financing. Without it, says Bair, some of the portfolios "may be so distressed that a healthy bank just does not want to deal with them."
Not everyone is a fan of the agency's approach. Linus Wilson, a finance professor at the University of Louisiana at Lafayette who has written extensively about bailout programs, says the FDIC's zero-percent financing artificially inflates prices by as much as 20% and leaves its insurance fund vulnerable to losses. He doesn't think the FDIC should retain a stake in the loans.
The FDIC is finding plenty of takers. Loan sales planned or completed in 2010 are on pace to reach at least $10 billion in book value by midyear, matching the total for all of 2009. A new sale of FDIC-owned loans with a book value of $1.97 billion is scheduled for June. Starwood Capital Group, Colony Capital, and TPG are among the firms snapping up the offerings. Using the FDIC financing for part of the purchase price, they are laying out as little as 22 cents on the dollar in cash for the portion of the loan packages they buy.
Still, this is not a giveaway. Starwood CEO Barry Sternlicht, 49, oversaw a fund that bought assets from the Resolution Trust Corp., the government agency that disposed of $394 billion of assets from 747 failed lenders in the 1990s. That fund earned a roughly 94% return, he said in a private February call with potential investors.
This time when Starwood and its partners bought a stake in a $4.5billion portfolio of unpaid loans in October of last year, the FDIC added an "equity kicker." From the outset, the agency is entitled to 60% of any profits on the loans. Once the Starwood-led group makes back twice its initial investment and earns a 25% rate of return, the agency's share of the gains jumps to 70%. Even so, Sternlicht is delighted to do business with the FDIC. During the February call he said: "It's very hard to lose money on a transaction like that."
The bottom line: Buying bad loans paid off for bold investors after the S&L crisis. This time, taxpayers will share in the upside.