Friday, February 15, 2008

Banks: Walk away from the deals

In today's FT:

Leading banks are being advised that it would be cheaper to walk away from big buy-out deals than incur further losses on their funding commitments, increasing the chances that more high-profile private equity transactions will collapse.

This advice from lawyers contrasts with the conventional wisdom that banks would risk serious damage to their reputations if they were to drop out of deals.

But legal advisers argue that the break-up fees banks would owe in such cases would be far lower than the write-downs they would have to make on their loans, given the current cataclysmic conditions in the capital markets.

More here on why the banks are walking away:

“It is the tipping point argument,” said a senior partner at one of the biggest private equity firms, who asked not to be named. “The banks have so many issues with their balance sheets that they are considering a new policy.”

Now that homeowners have found out that it is easier and cheaper to walk away, so are the banks!

What the banks and homeowners have is declining assets on their respective balance sheets. In a deflationary environment, you hoard cash, and you can't service your debt. Yesterday, I highlighted Bernanke's anti-deflation speech of November 2002.

The banks, now want to hoard cash, and just walk away, just like the homeowner. So Fed policy has to be stimulative enough to not only get us out of this recession, but to causes prices on homes, stocks, and bonds to inflate. Which needs much healthier and faster growth. For that to happen, short term rates need to come down much farther, and stay there much longer for that to happen.

And when banks hoard cash, they don't lend. Bernanke finally gets it. How ironic, is it, that his policies, helped cause this situation; and now he can put his academic musings into practice.

If a fireman burnt down his house, in order to hone his firefighting skills, we'd commit him. But do the same in finance, and you're the head of the nation's bank!

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