The following guest commentary was written by David Bunting and Brett Haire, the two principals of Brave Asset Management. Prior to starting BAM, they ran the Equity and Government Bond Trading departments at First Boston Corp. where they were responsible for warrant trading and corporate finance valuation.We have followed with interest the proposed terms for financial firms to redeem the equity warrants they issued in connection with the TARP program launched last fall. Earlier this year, a small bank cheerfully paid twice the amount they originally offered to the Treasury to retire their warrant obligation. No we read that State Street ( STT) Corp. is buying back their warrants at $60 million; with 5,575,208 warrants outstanding, the price offered is $10.76. Analysis based on current measured volatility produces a value of $15. We have also read recently that Jamie Dimon, CEO of JPMorgan Chase ( JPM), has protested that the Treasury's formulas have generated a value that JPM views as "too high for the bank to pay." This is coming from a firm that accepted large sums from TARP and federal guarantees above $100 billion while absorbing Bear Stearns and Washington Mutual. It appears that we are about to watch an unequal contest pitting Wall Street cunning vs. bureaucratic bewilderment, with the beleaguered citizens (taxpayers) paying a large opportunity cost. Even the government's oversight group has detected trouble; based on early proposals, that group estimates the offers are about 35% under realistic prices and, if accepted, might realize almost $3 billion less than "market values." There is a simple solution to this sorry spectacle, easily implemented by the Treasury (or the Federal Reserve, acting as the Treasury's agent) - to wit, hold public auctions of the warrants, allowing the securities to be sold through Dutch Auction techniques familiar to most market participants.
After all, the Treasury sells tens of billions of Treasury securities this way each week, with very little strain on the credit markets. Of course, the issuers of the warrants would be welcome to bid with the crowd and retire their obligations if they choose, or they may prefer to let others pay "prices too high," and leave their warrants to trade in public markets until their expiration date. Public sales will give the taxpayers their best (perhaps only) chance to see a reasonable return on the funds expended on their behalf to bail out the stupidities of the recent credit fiasco.