Bank Arbitrage (JPM, C)

At yesterday’s presser, Fed chief Ben Bernanke indicated an easy policy stance for the foreseeable future.

While the basis of this is the ostensibly high unemployment, I believe it is really to buy time to rehabilitate the bank’s balance sheets. They remain poorly capitalized.

Rather than put insolvent institutions into reorg, we have allowed the hang on slowly getting better through a massive back door bailout: Borrowing from the Fed at near 0%, and lending it right back to Treasury at 2-3%. This is more politically acceptable than just writing them checks for $100s of billions of dollars.

Consider:

• Q1 2008: JPMorgan Chase had an average of $1.2 billion in outstanding Fed loans with a 2.1% interest rate while it held $2.2 billion in U.S. government securities with an average yield of 4.6%.

• Q4 2008, JPMorgan Chase had an average of $10.1 billion in outstanding Fed loans with a 0.6 % interest rate while it held $10.3 billion in U.S. government securities with an average yield of 1.7%.

• Q1 2009, JPMorgan Chase had an average of $29.2 billion in outstanding Fed loans with a 0.3% interest rate and held $34.6 billion in U.S. government securities with an average yield of 2.1%.

• Q2 2009, JPMorgan Chase had an average of $7.6 billion in outstanding Fed loans with an interest rate of 0.25% interest. Meanwhile, it held $34.6 billion in U.S. government securities with an average yield of 2.3%.

• Q1 2008, Citigroup received over $5.2 billion in Fed loans with a 3.3% interest rate and held $7.9 billion in U.S. Treasury Securities with an average yield of 4.4%.

• Q4 2008, Citigroup received $15.8 billion in Fed loans through the Fed’s Primary Dealer Credit Facility with a 1.2% interest rate; $11.6 billion in Term Auction Facility loans with a 1.1% interest rate; and $4.9 billion in Commercial Paper Funding Facility loans with a 2.7% interest rate. It simultaneously held $24 billion in U.S. government securities with an average yield of 3.1%.

• Q1 2009, Citigroup received over $12.1 billion in Fed loans with an interest rate of 0.5% while holding $14.3 billion in U.S. government securities with an average yield of 3.9%.

• Q2 2009, Citigroup received over $23 billion in Fed loans with an interest rate of 0.5% while holding $24.3 billion in U.S. government securities with an average yield of 2.3%.

• Q3 2009, Bank of America had an average of $2.9 billion in outstanding Fed loans with an interest rate of 0.25% while purchasing $23.5 billion in Treasury Securities with an average yield of 3.2%.

Sources: Federal Reserve, US Senate

Similar arbitrage has existed for the top 20 banks since the Fed took rates down to zero.

The bailout has always been about rescuing the banks, their management, shareholders, and most especially, their creditors and bond holders.

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