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Toxic-assets program to be led by 9 private fund managers

The need for the long-awaited initiative has lessened as the crisis has eased, Treasury officials say. Treasury Secretary Timothy F. Geithner says the scheme will 'initially be modest in size.'

July 09, 2009|Jim Puzzanghera and Ralph Vartabedian

WASHINGTON — The Obama administration significantly downsized its program to buy toxic mortgage-backed securities while naming nine private investment companies to purchase the assets with the help of government money.

The announcement formally launched a long-awaited initiative to help clean the balance sheets of financial institutions, allowing them to expand credit and help the economy to recover. But the need for the program has lessened as the financial crisis has eased, Treasury officials said Wednesday.

Newport Beach bond giant Pimco was an enthusiastic early supporter, giving the original plan a major boost by saying it wanted to participate. But, surprisingly, it wasn't one of the government's nine partners.

The company said Wednesday that it had withdrawn its application because of "uncertainties regarding the design and implementation of the program." Treasury officials would not comment on Pimco's application.

Under the complex program, private fund managers would raise up to $10 billion and tap up to $30 billion from the government to buy troubled securities backed by bundles of mortgages.

That Public Private Investment Program, announced in March, was part of a two-pronged strategy for purchasing as much as $1 trillion in toxic assets. The original plan also called for the use of federal debt guarantees and Treasury money to lure investors into buying mortgage loans directly from banks. But that initiative, called the Legacy Loan Program, is still only a pilot project under the Federal Deposit Insurance Corp.

It now appears that the two programs, which took longer to design than many analysts had expected, will be much smaller in scale than originally estimated.

Outside experts said it was far from certain that the program would do much for the banking system.

"This is largely a face-saving announcement," said Simon Johnson, an economist with the MIT Sloan School of Management. "It is inconsequential in terms of whether the banks will have enough capital."

Aaron Deer, a banking analyst at investment firm Sandler O'Neill, said he wasn't sure whether the program would help create a market for securities that can't be converted to cash easily or soon.

There continues to be a significant gap between the price that securities owners want and that which potential purchasers will pay, he said. If the offering prices for the securities are too low, banks may choose to sit on them rather than take a hit to their balance sheets.

An estimated $2 trillion of the toxic securities are held by U.S. banks, Treasury officials said. They stressed that the market for mortgage-backed securities assets has improved since March and that banks have shown the ability to raise capital again, lessening the need for large programs.

In a joint statement, Treasury Secretary Timothy F. Geithner, Federal Reserve Chairman Ben S. Bernanke and FDIC Chairwoman Sheila Bair said the programs would "initially be modest in size" but could be expanded quickly if financial conditions worsen.

Scott Talbott, senior vice president of the Financial Services Roundtable in Washington, said the financial industry still sees the toxic assets program as an "important program to keep in the arsenal" because the banking system and the economy have faced so much uncertainty.

One of the complications in launching the Public Private Investment Program was a lengthy application process for private fund managers that would purchase the assets. More than 100 firms applied to be part of the program, Treasury officials said. Among the nine selected were BlackRock Inc., Wellington Management Co. and Invesco Ltd.

Potential managers also had to agree to conflict-of-interest rules and ethics guidelines. Among them were provisions that would prevent them from purchasing assets from any affiliates and require them to have independent compliance units that would report back to the Treasury Department.

Fund managers will be required to invest at least $20 million of their own money, and each manager will have up to 12 weeks to raise at least $500 million from private investors. Treasury officials expect the managers to raise as much as $10 billion altogether.

That money would be joined with federal funds to purchase the securities. The Treasury will match up to $10 billion and then loan the funds a total of up to $20 billion.

Treasury officials designed the partnerships so that fund managers would share the risks of losing money on the purchases if they pay too much for them, and the profits if they strike a fair price and the value of the underlying mortgages improves over time.

Finding a fair price for the assets has been the major stumbling block in government efforts to purchase them. The $700-billion Troubled Asset Relief Program launched last fall was originally designed for the government to buy the assets directly. But Bush administration officials abandoned that plan partly because it was difficult to determine a fair price for the complex securities.

The prices that fund managers will pay for the assets will not be disclosed, a senior Treasury official said Wednesday.


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