The Bailout's Unfair Bad Rap

NEW YORK (TheStreet) -- We just celebrated the fifth anniversary of the Troubled Asset Relief Program, or TARP, which was signed into law in October 2008. Separate and in addition to TARP were the bailouts of Fannie Mae (FNMA) and Freddie Mac by the federal government. It's hard to believe how far we have come since then. We can all remember when the world was ending -- for the very first time -- and the U.S. Treasury became the creditor of last resort for pretty much everyone.

Our banks needed money, European banks needed money, AIG (AIG) needed money, Chrysler and GM (GM) needed money; the list seemed endless. On Oct. 3, 2008, Uncle Sam caved and authorized up to $700 billion in emergency loans to these struggling entities. In 2010, that amount was later revised down to $475 billion, but along with Fannie and Freddie, the Treasury loaned out $608 billion. The term bailout has quite a negative connotation, but is Uncle Sam being misconstrued as a sap instead of a forward-thinking businessman?

In retrospect, wouldn't it have been great to be able to step in at the market bottom and profit from the dramatic recovery of these financial and related assets? Can you imagine if every American were to benefit from our government's timely trade?

We did, you just haven't heard about it. What you have heard, along with a great deal of moaning and groaning, is how these bailouts cost American taxpayers billions of dollars. It's simply not true.

Breaking the Bailout's Bad Rap

Thus far, $569 billion of the $608 billion referenced above has been returned -- roughly 2/3 of which ($371 billion) were principal payments and the remaining 1/3 ($198 billion) in dividends, interest, fees, and warrants. This means there is still another 1/3 in principal outstanding, with interest accruing. Some quick math shows us the Treasury is going to come out ahead on this deal. Not only were the controversial bailouts not written off as an across-the-board loss, they will actually end up making the American taxpayers billions of dollars. It's not going to show up as a refund check from Treasury Secretary Jack Lew in every mailbox, but it will contribute to reducing (yes, reducing) our nation's overall indebtedness. (An excellent resource for all things bailout can be found here.)

Ok, so the bailouts weren't necessarily a "bad" thing. After all, why does a bank loan money to people and companies in the first place? In hopes that the borrower will repay the loan over time, with interest. And why do people borrow money? Sometimes it's because they simply don't have the funds to make a purchase. Other times, it's because they intend to use the funds for purposes that will earn them a higher rate of return than they will be paying in interest.

Not all loans are emergency loans.

Headlines this week hollered that margin debt was at its highest point ever. Meaning, investors are borrowing more today than ever against their portfolios to buy more securities.

That sounds scary, doesn't it? I don't know. The more important data point, in my view, is that margin rates are at their lowest point ever. We hear lots of horror stories about how greed begets trading on margin which leads shortly thereafter to bankruptcy and public humiliation. However, what we don't hear a lot about is how sophisticated investors utilize margin not just to bolster returns, but also to reduce their risk (by choosing to lever up at opportune times and hedge portfolios with short positions).

It seems relevant that the actual interest being paid on today's margin debt could actually be less than that of two years ago? Or how about the fact that, in relative terms, the outstanding margin balance today is a lower percentage of stock market capitalization than it was one, two, or even three years ago.

There is no report demonstrating what securities this record level of margin is being used to purchase. We assume these must be loose cannon retail investors doubling down against their dilapidated portfolio of gold mining stocks. But what if these are institutions intelligently and thoughtfully utilizing low interest rates to enhance the effective yield on their fixed income portfolios? If you are able to borrow at 1% and invest in a stable, diversified portfolio that yields 2.5% -- keeping all risks in mind, including the fact that margin rates are not fixed -- you may be making a timely investment decision. You are getting paid to borrow money. 

It should not be overlooked that in order to sell shares of a security short, one must borrow the shares on margin, whereby adding to the outstanding margin debt; however, as of today we are well within the range of "normal" levels of short interest.

I am not advocating that the retail investor get approved to trade on margin and begin doing so with abandon. I am simply pointing out that this indicator may not be particularly useful without proper context. Keep in mind that the media's job is to find big numbers and make them look bigger, scarier or more exciting. But there is usually more to the story than the headline.

-- Written by Adam B. Scott, founder of Argyle Capital Partners, in Los Angeles.

At the time of publication the author had no position in any of the stocks mentioned.

This article was written by an independent contributor, separate from TheStreet's regular news coverage.

Adam B. Scott is a founder of Argyle Capital Partners, a fee-only Registered Investment Advisor based in Los Angeles. A veteran of Morgan Stanley and UBS Wealth Management in Beverly Hills, Calif., Adam uses his extensive market knowledge and macro-level analysis to implement customized solutions for high net worth private clients. Adam is an avid tennis player and skier, and volunteers his free time to the Fulfillment Fund, the Tufts Alumni Association and coaching local youth sports.

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