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TURBO TIMMY'S SNEAKY SCAM
Parts 1 & 2
by Justice Litle, Editorial Director, Taipan Publishing Group. March 30, 2009

On close inspection, there are only two possibilities for the Geithner “Rescue Plan”: It’s an honest effort doomed to fail... or a blatant scam that just might work.

Treasury Secretary Geithner,, we hereby dub thee “Turbo Timmy.”

As a number of you have informed me, the “turbo” moniker - as in, “doesn’t know how to use Turbo Tax” - has been around for a while now. With my many sources and ears on the street, I’m surprised I hadn’t heard it prior. (Or maybe it just went in one ear and out the other.)

Other honorable mentions in the SecTreas nickname contest include:

And then there was the following reader submission, which defies all description:

How about "All in, Tim" or IRONMAM "I Ran Over Nouriel Making Another Mistake" Or maybe tim, I can't stop sucking Hank Paulsons A[**], Geithner. Tim, hey I got an idea Geithner. How about Tim the dollar killer? Gangster Tim? The 6 trillion dollar man? Tug boat tim? (No reason, it just rolls off the tongue) or maybe because he is printing boatloads of money? Tim the terrible? 2 face Tim? I don't know, what do you think?

Tony

Tony, I think you gave me the best laugh I’ve had all week.

No Laughing Matter

It’s good to start off this piece with a little humor, because the storm clouds are about to roll in.

I’ve looked over the details of the new Geithner “rescue plan” announced earlier this week. I’ve read everything I can get my hands on and plowed through the proverbial “stack o’ stuff” pertaining to the topic. And after a fair bit of reading and thinking, here is what I have come to conclude:

• As it has been presented, there is no way this so-called “rescue plan” can work.

• If the Geithner rescue plan is implemented honestly, it is almost certainly doomed to failure.

This whole deal is more twisted and distorted than a room full of funhouse mirrors, so it will take some effort to explain my thinking. It’s important, though, so stick with me here.

First off: To understand why the Geithner plan can’t work as advertised, we have to understand the nature of the problem that Turbo Timmy is trying to solve. To that end, I will use an analogy that you should easily be able to grasp.

Meet Franky Flipper

We have all heard how the crux of the problem relates to “toxic assets” buried deep in bank balance sheets. But what does that mean exactly?

To get a mental picture, let’s rewind to the heady days of the housing bubble. Remember when “flipping” was all the rage? There was even a popular show called “Flip This House” on A&E. (I just did a quick Google search, and apparently the show is still going. Amazing!)

The basic idea behind flipping a house works like this:

You can see why the “flipping” concept looked so attractive against the backdrop of a relentlessly rising housing market. Ordinary joes could do this without a lot of time, effort or money. (Many ordinary joes did.)

But it got out of hand when Franky Flipper started reasoning like this: “If low down payments are good, then ZERO down payments must be better!”

When the down payment drops all the way to zero, the theoretical return on investment shoots through the roof. And if there are no fix-up and repair costs - as is the case when flipping brand-new properties as opposed to old ones - the theoretical return approaches infinity.

Franky Gets Wiped Out

You remember what happened next in the great housing saga... the Franky Flippers of the world went nuts, and nobody tried to rein them in. (Hell, the media and the government all but egged them on. But that’s another kettle of fish...)

At the height of the bubble, there were any number of stories - you saw them - of uber-aggressive flippers leveraging a portfolio of 10 or 15 different properties, all purchased with no money down, against a single stream of income amounting to $50,000 or less. Everyone just went crazy. You had school teachers, bus drivers and traffic cops all playing the cookie-cutter suburbia version of Donald Trump.

Going back to our friend Franky Flipper... let’s say that Franky has $300,000 in the bank. He’s doing pretty decently for himself - and he also has a hotshot sales job - but $300K is all the cash he has for now.

Franky also has a $3 million portfolio of 10 homes - average purchase price $300K each - all purchased on generous lending terms with no money down. (Rather than fixer-uppers, these are all new homes or soon-to-be constructed homes bought on “spec.”)

You’re with me so far, right? You can see how a relatively average joe like Franky could go out there and buy 10 new houses at the height of the housing bubble, courtesy of stupid lenders and the zero down phenomenon, figuring he will sell all those houses at a profit and make a mint?

The plot thickens... for whatever reason, Franky loses his job at the luxury auto dealership. Lexus sales are down and he hasn’t been hitting his quota, let’s say - too much stress taking him off his game - so he’s out.

Without the cash flow from his job to make his monthly mortgage nut, Franky has to sell all 10 houses - $3 million worth of real estate - before he can get square and put his life back on track.

But here’s the kicker: Because Frankie has a $3 million leveraged portfolio and only $300,000 in cash, it only takes a 10% decline in real estate values to wipe him out.

Franky paid an average $300K for each of those 10 houses. So if the average price falls by just 10%, $30K times 10 equals $300K equals all the cash Franky has left. Any real estate decline beyond 10% leaves him insolvent (effectively bankrupt).

You see how that works? If you buy an asset (like a house) with lots of leverage relative to your capital base, and that levered asset falls by even a modest price percentage, it can be enough to wipe you out. This is true for everyone. It doesn’t matter if you’re Donald Trump or Joe Blow or Gigantic MegaCorp. Leverage is leverage, and it’s a double-edged sword for all.

Drinking Their Own Kool-Aid

So why did I just walk you through all that? After all, it isn’t the real estate flippers who are getting bailed out here - it’s the big dumb banks with their dumb toxic assets.

Here is why we went through it: Because the big banks in trouble now are in the exact same situation as Franky Flipper.

Whether it’s 3 million, 3 billion or 3 trillion dollars we’re talking about, the math is still the same. Whether it’s a straight-up mortgage note on a house or a more exotic form of “mortgage-backed security,” the leverage issue is the same.

It’s pretty ironic, really. Those of us with good sense had a cynical belly laugh at the madness of the flippers when the stories started hitting the wires. “You mean there’s a guy in Vegas who bought 14 houses on a $35K income? What a maroon!”

And you would think the bankers, of all people - the clean and sober belt-and-suspenders types who did the lending - would be smarter than the jokers they lent to. If real estate speculators were hot-to-trot gamblers, then the banks were supposed to be more like “the house,” i.e. the casino.

(No well-run casino would ever give its clientele enough rope to hang the house, by the way. That’s why the high roller tables always have posted limits. To refer to banks as “casinos” then is to actually give casinos a bad name.)

At any rate, there was no sobriety to be found anywhere. The big banks went just as crazy as Franky. After a time, the bankers drank their own Kool-Aid and started believing all that crap being shoveled out to the punters about how home prices never go down and any home-related risk is a good risk.

And so the banks decided to load up on super-risky mortgage-backed assets themselves, leveraging up their own books to the moon, with all the zero-down exuberance of a Franky Flipper... and they did it in mega-size fashion. We’re talking multi-trillion large here.

And now the banks are screwed, and staring down the barrel of insolvency (“bankruptcy” to schleps like Franky) because the value of their overleveraged loan portfolios (to the tune of trillions) has tanked, and that’s how we got to where we are with this whole “rescue plan” business.

Turbo Timmy’s Tough Problem

We can take the analogy further, so let’s do it.

Say that Franky Flipper is a good friend of yours - he got you a great deal on your Lexus, maybe - and you just happen to be a government official.

For whatever reason, you have decided that Franky Flipper must be saved. The situation looks bad, but you are a loyal pal, and you don’t want Franky to go bust under any circumstances if you can possibly save him.

So in your capacity as a government muckety-muck, how do you save your friend?

In an honest world, there would just be no way to save Franky. His liquid assets ($300,000) are only a tenth of his liabilities ($3 million worth of mortgage notes), and the value of his illiquid assets (the homes he owns) has gone into the crapper along with the real estate market.

Barring a miracle, Franky is toast. Apart from a windfall cash infusion out of the blue - the death of a rich uncle maybe - there is no way to make the math work. There’s just no way to save Franky’s bacon... and the same is true for the banks as they exist today.

See, the toxic garbage sitting on banks’ books right about now looks as attractive to potential buyers as a half-finished mega-mansion with a bulldozer out front, tucked way in the back of a deserted cul-de-sac, in the middle of some nameless, empty, ghost-town subdivision 30 miles due east of Tumbleweed, Arizona. You wanna live there? You wanna invest there? I don’t think so. Does anyone else in their right mind? I don’t think so.

With me so far? Analogy holding up? Let’s keep going...

Geithner’s brilliant solution - the thrust of the “rescue plan” that juiced Wall Street this week - is to bring private investors into the toxic asset mix, in a “public-private partnership” between Wall Street and the government... and then, via that public-private partnership, to buy up all the bad assets from the banks (with a huge helping of taxpayer-funded leverage).

Just imagine Turbo Timmy saying the following (as a giant light bulb goes off over his head):

“Hey! Here’s how we can solve Franky Flipper’s problem. We’ll just get other real estate investors to buy the 10 houses off him... and we’ll convince those other investors to do it by offering them sweetheart deals on leveraged loans and limiting their total risk to a small down payment only. Franky sells off his housing portfolio, the private investors get a deal, and everyone is happy. Hooray!”

Now... do you see why this plan can’t possibly work? Here it is in plain English:

That’s why all this shiny happy stuff about a public-private partnership is total baloney. The banks are just as bad off as Franky Flipper. If the toxic assets in question were sold at anything approximating their true value, the banks would be wiped out.

Shockingly, the word is that players like Citi still have huge piles of assets on their books marked close to “bubble valuations” like 90 or 95 cents on the dollar. That’s nowhere close to the real value. It’s like Franky Flipper pretending that the half-built spec house 30 miles outside Tumbleweed - a house more likely to be torn down for scrap than to ever see someone living in it - is still worth 90% of what he paid for it.

And again, the much-touted “private investors” being invited into Turbo Timmy’s plan have no reason to pay anything but fair prices (i.e. extremely low prices) to the banks for these assets, because private investors are not stupid as a general rule and will want to protect themselves against risk of loss.

So, in a nutshell, the whole private-public partnership thing is Mission Impossible. The natural interests on both sides - of the banks and the putative investors - are way, way, waaay too far apart.

And that means Turbo Timmy’s brilliant rescue plan is DOA... dead on arrival.

Unless, of course, the whole rescue plan is just a complicated scam... a con, a shell game, an elaborate ruse designed to hoodwink the public.

Part 2

In part two of "Turbo Timmy's Sneaky Scam," Justice looks at the ways and means by which a giant Treasury-orchestrated con job might succeed.

In part one of this series on Friday, we talked about why the Geithner “rescue plan” can’t work as advertised... and why any honest attempt to implement this thing is doomed to fail (as a number of credentialed economists are predicting will happen).

But we closed part one with the following caveat (more or less): While no honest version of this turkey will fly, a flat-out con job might actually succeed.

There are lots of ways to skin a cat... or a U.S. taxpayer, as it were. To explain what I mean, we’ll turn to analogy one more time...

A Classic Con

As the great housing bubble turned to bust, ugly stories arose of slick con men (and women) ripping off community bankers, wide-eyed innocents, and pretty much anyone else they could steal from, with targeted real estate scams.

These scams typically revolved around phony or fraudulent transactions - deliberately inflating the value of a property, then initiating a bogus exchange between buyer and seller with later intent to defraud.

There were many different variations on the scam, but the endgame was always the same. The original buyer, the original seller, and or sometimes even both with the appraiser thrown in for good measure, were revealed to be on the take. The charlatans would keep a low profile, get paid as discreetly as possible, and try to be long gone by the time the truth came to light.

How does this apply to the Geithner rescue plan?

Well, remember the crux of the problem: The “public-private” partnership is a nonstarter because honest investors have no natural compunction to throw good money after bad. They won’t make the high bids necessary to keep the banks solvent. (What we have here, by the way, is not a liquidity problem but a solvency problem - something that Turbo Timmy, Sheila Bair at the FDIC, and Team Obama on the whole refuse to admit.)

So honest private investors would tell Turbo Timmy to forget it. But dishonest investors... well now, that’s another story.

Dishonest investors just might be willing to buy up the banks’ bad assets at inflated prices, knowingly setting themselves up for a loss... with further knowledge that the real payoff will come later.

Remember Franky Flipper from Friday? Once again, Franky, your pal, is in trouble, and you are a government official.

Did I mention you are a very powerful government official? So you call up your friend Harry Hedgie - a big-shot private investor - and this is what you say:

“Say, Harry old buddy! How’s things? Listen Harry, have I got a deal for you. You’re gonna love this, I promise... Our mutual friend Franky - you know Franky - is in a real bind. So here’s what I need you to do. I need you to buy a couple spec houses off him, and I need you to mark up your bid good and high... pay him a very nice price. I know it’s a fire-sale market, but a fire-sale bid won’t do. Franky is good people and we just can’t let him go under. He’s a bit too connected himself if you know what I mean. What kind of bid price are we talking, you ask? Well let’s see. He got in to these dogs around $300K apiece... so I need you to bid, say, $270-$280K minimum, maybe even a touch more.

“Whoa, whoa! Don’t yell into the phone Harry, I’m right here. Believe me, I know. I know the properties are crap. I know they might not even be worth half what I’m asking you to bid. And I know you wouldn’t flush money down the toilet on purpose. That’s why you’re Harry Hedgie, the big-shot investor that you are. But give me a little credit too, huh? Would I even be calling you without a way to make it worth your while?

“So here’s the deal... all we need to do is give Franky the appearance of solvency. Once he’s looking good again, we’ll have time and room to shuffle money around to the serious benefit of a few connected folks - including you, Harry ol’ pal. If you take a small guaranteed loss on this set-up, I’ll make it well worth your while. You’ll only have to put up a tiny fraction of the total price - we’re talking less than $25,000 per house. That little slice is the most you’ll be at risk for. All the other leverage, roughly 85% of the losses, are for Uncle Sam and John Q. Taxpayer to worry about.

“You’ll probably wind up losing your upfront collateral. That’s how it goes with making an inflated bid... eventually the true value of the asset comes out in the wash. But Harry old buddy, if you do this, if you take this short-term hit, then I swear I’ll make it worth your while.

“If you hold your nose and make this bid for me, Harry my friend, in my capacity as a government official I will make sure you get a sweet return on your investment in some other, shall we say, ‘alternative’ way. I’m a pretty powerful guy... getting more powerful by the day too... so you know there are all kinds of things I can do for you. Think of all the different ways we could put that money back in your pocket. Heck, we can dream up some payback plans before you even give me a verbal. What do you say?”

The Cloak of Complexity

Once the fix is in, with both sides clued in to the sham and the government enabling it, the rest is just detail work.

After all, Congress and the public are all too easy to hoodwink. Just keep ‘em distracted with a bunch of populist guff about bonuses... throw a high profile scapegoat or two (like the head of AIG) to the media wolves... then get on to the real business of grand larceny and financial highway robbery under the cover of boring acronyms and complicated spreadsheet manipulations.

Just think of all the angles crafty mortgage cons came up with to milk the housing boom. Then think about the fact that those guys were small time, without the benefit of Ivy League business school training or decades of immersion in the esoterica of high finance.

In other words: When you get Wall Street’s best and brightest motivated to put money in their pockets under cover of darkness, the prestidigitation that follows could put David Copperfield to shame.

My general expectation, if things go according to Turbo Timmy’s liking, is that the rescue plan will be billed as more or less a success. There will be strange numbers, strange accounting, and dubious happenings popping up here and there, but by and large it won’t be enough to cause a media problem. A few sharp-eyed observers might squawk... but overall the public’s eyes will glaze over.

And then, if Nouriel Roubini’s present assessment is correct - that the banks are still stuffed with rotten apple assets - most of those rotten apples will be transferred directly into the taxpayer’s lap.

The thrust of the Geithner plan is to give the private participants 14X leverage (roughly 7 cents out of every dollar). The government provides the leverage and takes liability (on behalf of the taxpayer) for the rest. That means for every dollar that vaporizes, you and I as taxpayers will pay almost 93 cents.

If we see a further blowup later this year or next year, as Roubini expects, the total bill could come to trillions of additional dollars. Under more honest circumstances, this would count as more (lots more) additional bailout money the Fed and Treasury would have to request from Congress.

But thanks to the bait-and-switch rescue plan - scam that it is, with the private investors functioning as paid shills - Turbo Timmy has set things up so that the American people have no more say in the matter. The banks will be saved in very slick fashion... including the current crop of shareholders, bondholders and executives... while you and I pay through the nose on a scale that makes the AIG bonuses look like a fight over a stick of bubblegum.

A Pretty Good Scam

So that’s my take on the Geithner rescue plan. I didn’t bother with the specific details because you can read about those in The Wall Street Journal, USA Today and what have you.

Understanding the scam-like nature of this thing might also account for the different notes being struck in the media... take guys like Paul Krugman and James K. Galbraith for example. These two are as left-wing liberal as they come.

I’m not insulting Krugman or Galbraith in saying that - it’s simply an open orientation and a point of pride for them. Krugman’s blog is even called “the conscience of a liberal.” Being proud left-wingers, they are natural Team Obama fans. If anyone were in the “hope and change” camp, it would be them.

And yet, these guys (Krugman and Galbraith) loathe and despise the Geithner plan because they see it for what it is... an utter betrayal of the shining left-wing idealism Barack Obama’s whole candidacy represented to committed idealists like them.

Krugman and Galbraith know that the only two fair moral assessments of the Geithner plan are “bad” and “worse:” Either the thing just flat out fails to work, or if it does work, it works by selling out all the principles that a good left-wing idealist stand for.

And then you have cynical, gleeful hand-rubbers like Bill Gross, a.k.a. “the Bond King.” Gross heads up PIMCO <http://www.pimco.com/Default.htm>, one of the largest bond houses and money management operations in the world.

I used to like Bill Gross, and I made a point of reading his monthly commentary on a regular basis. I still read him, but I no longer like him, because as far as I’m concerned Gross has completely and totally sold out America in pursuit of his bottom line.

Bill Gross has gone on record basically calling the Geithner plan great, wonderful, fantastic, all those joyful buzzwords... and why?

Because, in your editor’s humble opinion, Bill Gross knows that PIMCO is going to make an ungodly amount of money from this scheme, and he is absolutely licking his chops over it - like a cartoon wolf with fork and knife in hand. Again, that windfall won’t come through the front door, mind you, via PIMCO paying inflated prices for garbage assets... but through the back door, by way of all the back-scratching and dues-paying and asset-inflating that PIMCO will enjoy in exchange for helping Turbo Timmy out of a jam.

Blackrock, one of “’the worlds largest publicly traded investment management firms <http://www2.blackrock.com/global/home/AboutUs/index.htm>,” is another huge money house set to make a shamelesss killing off the Geithner plan - likely shearing and slaughtering taxpayers in the process.

Some traders have taken to lumping the two massive entities of Pimco and Blackrock together and calling them PIMROCK. Is it a surprise Blackrock was founded by a guy named Larry Fink? Hmm... Fink and Gross. Probably just coincidence rather than cosmic irony, but who knows.

A Truly Sad Thing

The good news is, if Geithner & Co. manage to pull this trick off, the markets really and truly could find a better short-term footing because of it.

That is to say, if Turbo Timmy and his gang of colluders manage to hoodwink the public with a successful shell game maneuver, with all backs scratched and wallets padded according to plan, then the notion that “hooray the banks are saved” might well propel markets higher, put bank valuations back into the black, and restore a feeling of confidence to the country.

But if that happens, one has to ask: At what cost?

At what cost do we not only refuse to punish the old crony-ridden, smoke-filled-room regimes that got us into this mess, but even take measures to restore their health and make them even more powerful than before?

If it weren’t so sad it would be hilarious. All this hoopla and hype and rage over a stupid $165 million in bonuses at AIG, and here we are on the cusp of being hoodwinked for hundreds of billions to TRILLIONS, and people are smiling and nodding happily about it. (Lots of people anyway... not all.)

The mind boggles... I mean thanks to the blow-hard antics of Congress, we now have lunatics sending death threats to puzzled and terrified AIG execs, many of whom had nothing to do with the credit-default-swap fiasco that brought AIG to its knees (the company had many lines of business, only a few of them fraudulent)... and meanwhile America is on the cusp, yet again, of being kidney-punched and robbed blind by the same group of smug white collar bastards who brought her to her knees in the first place, and we aren’t even paying attention.

Shaking Hands With the Devil

Team Obama member Larry Summers - a christened “wise man” of the highest financial order - was reportedly “gratified” to see the market’s huge rally last Monday in response to the Geithner plan.

And to that I say: Well sure, Larry, I mean, don’t you know how this kind of thing works? When you sell your soul to the devil, good things generally happen in the short term. It’s the long term you have to worry about.

And let me be clear, it’s the long term rather than the short term that I’m worried about too here.

As far as I’m concerned, the entire Obama administration has made a deal with the devil, and Turbo Timmy is just the guy working out the contract details. (I don’t know where the President himself stands in all this, but there can only be one of two verdicts: Complicit or Ignorant. Mr. Obama knows and approves, or he’s a pawn. I wish there were another option, but he’s the chief. What else could it be?)

By conceding that Wall Street must stay by and large “as is,” by leaving the power structures alone, we are setting ourselves up to get right back in the same soup later on.

New regulatory efforts won’t mean a hill of beans... expecting Congress to rein in Wall Street is like asking the Keystone Cops to chase down Lex Luthor. Worse still, I strongly suspect that all the guff about “never again” and a new regulatory regime is just more smoke screen - more means to placate a gullible public while concentrating ever more power in the hands of the powerful.

And so, in the short term, maybe they put some sweet spin on this thing and the markets keep moving higher. Maybe we take another step towards recovery with all the guilty players feeling flush, enjoying their by-and-large restored health.

And maybe then too, instead of actually taking this chance we’ve been given to rebuild a corrupt, festering, crony-driven financial system into something better, we stick with just what we had before... and get ridden into the ground by the same group of slavering, greedy masters just like before... and sign up for an even bigger, uglier day of reckoning at some point down the road.

Whew... time to decompress and go have a drink and some laughs. If you’ve read this far, maybe you need a drink too.

And let me know what you think: Am I wrong in my assessment of the Geithner plan (that it has to be an inside job, that a scam on the taxpayer is the only way that makes sense)? If I’m right that Team Obama is striking a pact with the devil, can that deal somehow be justified in light of the economic stakes, or is it simply beyond the pale?

And, last but not least, is there anything else we can do as citizens, besides staying vigilant and protecting and growing our own wealth in the face of all this madness? You know the e-mail: justice@taipandaily.com

© 2009 Justice Litle

Justice Litleis editorial director for Taipan Publishing Group. He is also a regular contributor to Taipan Daily, a free investing and trading e-letter, and editor of Taipan’s Safe Haven Investor. He is the founder and editor of the group’s newest research advisory service, Justice Litle’s Macro Trader.

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