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How to Discuss the Bailout at a Cocktail Party
Between the $85 billion AIG bailout and the $700 billion “Emergency Economic Stabilization Act of 2008”, every one of the 305 million US citizens is now in debt another $2,600. Is it heresy to suggest these loans are good business? That we will get paid back plus make a profit from this new debt?
If you want to argue that we’ll profit from these loans, then you’re in good company: Warren Buffet said just that on a PBS interview with Charlie Rose. I agree with Buffett, and you can too.
Remember how the AIG deal is structured: the government gets 80% of the company, then loans it up to $85 billion for 2 years at 12% interest. Holy smokes, did someone just say 12% interest? Meanwhile, thanks to investors leaving the markets, the US government is borrowing money more cheaply than ever: 1/20 of a percent at a recent Treasury auction.
It’s easy to see how the AIG bailout will make us money: it’s one company, and it’s done. The mortgage bailout is just beginning – but we’ll get through it OK.
Let’s start with some assertions to help justify why the Mega-Bailout is going to make money:
- Treasury Secretary Hank Paulson is really smart, and he now has total discretion to invest the $700 billion any way he pleases. Here’s what the bill says about who can question his authority: “Decisions by the Secretary pursuant to the authority of this Act are non-reviewable and committed to agency discretion, and may not be reviewed by any court of law or any administrative agency.” Wow – I don’t even have that kind of power in my household.
- Oceans of bad loans need to be sold to someone for market prices. None of the sellers expect to get full price for them, but no one wants to buy them at ANY price. Do you want to buy any mortgages?
- Everyone with money is deleveraging, meaning that they’re trying to keep more deposits vs loans than they used to. So there’s just no money floating around.
The problem is simple: even at a fair price no one is stepping up to buy the bad loans. When everyone is selling and no one is buying, a savvy buyer can get a good deal. That’s what Paulson is going to do: be the savvy buyer. He didn’t claw his way to CEO of Goldman Sachs by being somebody’s fool.
The world’s three richest people are currently on a buying spree. Buffett just put $3 billion in GE and $5 billion in Goldman Sachs. Carlos Slim bought 6.4% of the New York Times in early September, and even Bill Gates is spending some money – on Monday he bought 5.6% of Strategic Hotels & Resorts, which owns various hotels operated under brands like Fairmont, Four Seasons, and Ritz-Carlton.
What NOT to argue:
These bailout efforts aside, the economy isn’t just going to bounce back. A reasonable guess is that we’ll have a recession of between 6 months and 3 years. Unemployment, currently at 6%, will probably rise. If Hank Pauson does a bang-up job we’ll hopefully see unemployment stop at 7%, but 10% is certainly possible. That’s a lot of miserable people – hopefully it will not come to that.
The bottom line is that we live in a self-healing system. Look around you – aren’t people still productively doing what they do? Sure, we buy too much stuff from overseas, but that just ties the world’s economies together. In 10 years this will be no more than a memory, and the next disaster will again be compared to the Great Depression. Meanwhile, our standard of living rises every 10 years like clockwork.
So what’s a non-billionaire investor to do? Same as yesterday: correctly choose a stock/bond allocation, identify how much small and value tilt you want in your portfolio, diversify globally, reduce fees and taxes, and pay more attention to your friends and family.
Feel better?
