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Wed. Jan. 21, 2009

TARP Investment ROI Significantly Down *

When the government wants to spend pork, but not call it pork they rebrand it as an “investment” in our future. Such is the case with the Troubled Asset Relief Program (TARP). So, as taxpayers and “investors” how have we fared with our “investment” and how does TARP fit into our dividend portfolios?

In a report issued last Friday, the Congressional Budget Office (CBO) concluded that the Treasury lost more than 25% of the $247 billion it spent as of Dec. 31 bailing out banks, according to a report released on Friday.

The CBO used a modified Black-Scholes option pricing model to value the TARP assets. The calculation was based on the present value of the dividends banks are required to pay taxpayers on the warrants issued in exchange for the funds received. The present value of the warrants was only $183 billion at December 31st, resulting in the Treasury providing a “subsidy” to the banks of $64 billion.

Terms of the TARP agreement require banks to pay back 5% annually in dividends for the first five years, and 9% after that if taxpayers haven’t been repaid. The warrants expire in 10 years. Last Thursday, Lawrence Summers, President-elect Barack Obama’s chief economic advisor, promised that the incoming administration would take steps to improve returns on TARP funds for taxpayers, in part by limiting dividend payouts to shareholders.

Prominent financial companies participating in TARP include:

  • American Express Company (AXP)
  • Bank of America Corporation (BAC)
  • BB&T Corp. (BBT)
  • U.S. Bancorp (USB)
  • Wells Fargo & Co. (WFC)

Some institutions, such as Bank of America, have returned to the trough to feed again off TARP funds. As dividend investors, we must carefully consider whether or not banks participating in the TARP program should be included in our income portfolios.

Full Disclosure: Long BBT, USB


11 Responses to “TARP Investment ROI Significantly Down *”

  1. Jae Jun says:

    I’m sure WFC can handle the economy but given such easy going conditions on the TARP funds, WFC would be crazy not to ask for such cheap money.

    BAC is a different story though.. which I don’t fully understand.

  2. Jae: I agree that WFC is not in the same condition as BAC. My only concern as a dividend investor are the stipulations put on companies participating in the TARP program.

    Best Wishes,
    D4L

  3. Dividend Tree says:

    BAC eat more than it could digest. And I would wait for some more time before giving passing grades to WFC.

  4. Fathersez says:

    My country is famous for its subsidies, a policy which has been soundly criticized by the World Bank, the IMF etc. And also by a number of our own citizens.

    One of the most memorable terms have been “keep spoonfeeding and soon the only thing they remember is the shape of the spoon”.

    Just food for thought.

  5. Fathersez: This is a path I would rather not go down. Once the government gets into your business, you never get them out.

    Best Wishes,
    D4L

  6. VLT says:

    I have a question regarding reinvesting dividends–do you recommend reinvesting the dividends (DRIP) to automatically buy more shares and dollar cost average or taking the dividend as a cash distribution and then investing in anything you like?

    Thanks

  7. VLT: I don’t use DRIPs or other automatic reinvestment plans because the company paying the dividend may not be the best investment when the dividend is paid.

    Best Wishes,
    D4L

  8. VLT says:

    D4L–thank you–hope you do not mind a follow up–what I meant was if you take a stock like GE from your holdings–when you get the distribution of a dividend–do you take it as cash or shares?

  9. VLT: When a stock pays a cash dividend, I let it accumulate in my brokerage account until the end of the month, when I add additional funds. I then invest the amount in what I consider to be a good buy at that time based on the stocks fair value and my asset allocation needs.

    D4L

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