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Nationalization: Is There an Exit Strategy?


No - but reprivatizing too soon may pose greater danger.


Whether it's later today, tomorrow, or sometime soon, I think it's pretty clear nationalization is coming. And whether by owning common stock, warrants for common stock, convertible preferred, or some combination thereof, the government is going to effectively own and control one or more of our nation's largest banks.

To me, it's never been a question of wrong or right, but one of economic necessity - a function of too much debt and too little equity coupled with asset deflation. Particularly for this crisis, nationalization of a few firms is the direct outcome of overeager, lifeguarding banks trying nobly to save drowning swimmers - only to realize that the current was too strong, and the swimmer had cement blocks strapped to his feet.

Be that as it may, nationalization is here, and we now need to look beyond the event to the new era. And era is the right word, since the time frame will be much longer than either Washington or Wall Street expects.

Part of the reason our experiment with nationalization will last a long time is that we're not the only ones in the lab. Looking around the globe, nationalized financial services firms exist (in various forms and stages) in the UK, Switzerland, Germany, Ireland, the Netherlands, Belgium and Italy - and my guess is that, by the time we're done, most Western nations will have at least one financial ward of the state on their hands.

But reading through the various government statements issued at the time of nationalization, there have been a number of consistent themes:

  • Nationalized banks will shrink.
  • Nationalized banks will lend.
  • Nationalized banks will focus on their domestic markets.
  • Nationalized banks will sell-off good foreign assets for capital.
  • Nationalized banks will transfer bad assets to the government.
  • Nationalized banks will ultimately be sold to private investors.

There even appears to be a consistent structural approach being taken, as both Citigroup (C) -- already positioned for nationalization right before our eyes -- and RBS (RBS) have split themselves into good bank/bad banks.

But where consistency could be viewed as a positive, I would offer that in the current environment it poses enormous systemic risk. As I look around the globe, we are likely to have, by my estimate, financial institutions -- making up some where between 50 and 60% of the world's total financial assets -- all trying to do the same thing - sell. And worse, sell the same things.

For example, AIG (AIG) and RBS are both trying to unload their aircraft leasing businesses. (And it's not unreasonable to think there could be a third firm -- GECC, anyone? -- interested in joining in.)

And take a look at the US brokerage space, Citi has already announced its sale of Smith Barney to Morgan Stanley (MS), but it isn't hard to imagine UBS (UBS), Bank of America (BAC) and Wells Fargo (WFC) being interested in shedding (once cleansed) their Paine Webber, Merrill Lynch and Wachovia Securities/AG Edwards franchises to raise capital as well.

To me this has the makings of a very one-sided market, particularly as the likely buyers – private equity firms, pension plans and sovereign wealth funds all struggle with their own asset deflation related issues.

It's for these reasons that I hope both Washington and Wall Street (along with their foreign-market counterparts) recognize the importance of patience. As eager as everyone is to have this crisis behind us, I'm fearful that, with everyone running for the exits at once, it could very easily foster a second and very damaging major price decline. And this fear is further heightened by the fact that nation after nation continues to adopt beggar-thy-neighbor solutions, putting economic reason far behind political expedience.

But with America on the cusp of nationalization, as contrary to capitalism as it may feel, let's not be too eager to now wish good riddance too soon.

Position in SPY, JPM
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