How the U.S. made the best of the crisis (Part 1)
Pfäffikon SZ, Switzerland – On 10 July 2006 Henry Merritt “Hank” Paulson Jr. started his job as the 74th United States Secretary of the Treasury. Paulson swapped his annual salary of roughly 40 million dollars, as CEO of Goldman Sachs, for a salary of only $185,000. Why would someone with Paulson’s knowledge do this at that time? It’s important to know the most influential people in the American government are required to liquidate any equity positions they hold before they begin their task. This is to avoid any possible conflicts of interest. Also important to know is that the profits from the sale of the equity positions will not incur any tax by the person concerned.
Perfect Timing
Hank Paulson owned approximately 1% of his former employer, Goldman Sachs. In July 2006 he sold 3,230,000 shares of Goldman Sachs in a public sale for 152 U.S. dollars per share. This gave Paulson 491 million U.S dollars net. In 2006, ‘Mr. Market’ was unaware of what was coming down the pipeline and the stock markets marched merrily forwards. Not a peep was heard at the moment Paulson cashed in his shares. Yet Paulson’s timing was impeccable, especially considering his role and involvement in the heat of battle at the outbreak of the crisis. I will revisit this later.
In my last column – The Swiss Experiment – I took the view that I believe the U.S. has given the crisis a boost for its own advantage. The U.S. has made the best from the crisis. Apparently, in 2006 there was nothing to worry about and the bull market was doing excellent work. Insiders believed differently, as several market analysts had already warned us about what to expect: the first cracks were already visible. As a top director at one of the most successful firms on Wall Street, Paulson would have also known.
U.S.: A dwindling Super Power
It is important to note that in this period the U.S. was beginning to lose its lustre as the ultimate Super Power. The trauma of 9/11 was still deeply felt. China was the Promised Land and Europe was doing well at the time. America seemed to be losing its grip. A ploy was needed.
In mid-2007, rumours slowly spread about how the U.S. mortgage market was beginning to slip. The bundling of mortgages, removing them from balance sheets and selling them on to institutional investors, who looked no further than their own noses, was a lucrative business that continued despite the obvious dangers. For years, the Americans cleverly sold these products around the world and were sometimes even forced to do this, as in the case of ING-Direct. ING was blinded by its (temporary) success and was very eager to break into the U.S. market. What began extremely successfully in Canada had to be rolled out worldwide, so they thought in the Zuid-As business district of Amsterdam. The consequences, up to the decimal point are, now well known by the Dutch taxpayer.
The Bomb bursts
The bomb burst in March 2008. The American bank, Bear Stearns, had an acute liquidity problem. Banks had tampered behind the scenes for thirty years with ‘black boxes’. Nobody really knows what is happening, but Paulson is very familiar with the matter. Tim Geithner, the future successor to Paulson, was already deeply involved in the rescue of Bear Stearns. Geithner is known for the vast knowledge he built up in this field for years before. Last, but not least of course, Ben Bernanke plays an important role in the process. Bernanke is known for his studies of the ‘Great Depression’. Bernanke is therefore perfect for his role. The trio knows the ropes.
The men decide to intervene at Bear Stearns. They write a check for $30 billion and give it to Jamie Dimon, CEO of JP Morgan Chase & Co. The mission is clear: JP Morgan buys Bear Stearns, indirectly financed with tax money.
After the rescue of Bear Stearns, Paulson lets it be known publicly that such a bail out is unique. He is a supporter of the so-called ‘Moral Hazard’. This was the first and last bail out; everybody must now sort themselves out during this crisis. The American government would not help. Things would turn out very differently.
700 billion
Next week, I will discuss how Paulson made clever use of his power and knowledge after President Bush gave him free rein to solve the problems once and for all, mainly for the benefit of the U.S. He put U.S. Congress against the wall and demanded that a whopping $700 billion (TARP) be approved within two weeks. Then he more or less wrote a blank check to the nine largest banks in the U.S. From that moment on, the EU and China were on the back foot. Paulson is on track, part two will follow next week.
It remains for me to wish you a good weekend.
Jan Dwarshuis is a senior asset manager at Thirteen Asset Management AG, where he is responsible for the Thirteen Diversified Fund. Dwarshuis writes his columns in a personal capacity and is not paid for them. Nor is he paying for his columns to be placed. Professionally, he holds positions in major European, American and Russian stock funds. The information in his columns is not intended as professional investment advice or a recommendation to make certain investments. At the time of writing, he has no position in the above shares and has no intention of doing so in the next 72 hours.
