Bailout 5: Paying off the debt발음듣기
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Bailout 5: Paying off the debt
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In the last several videos, we talked about the difference between the book value and the market value of a company's equity.발음듣기
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And at least on its books, it had $1 billion of government bonds. $10 billion of very highly rated corporate bonds, so these are loans to corporations that are very likely to pay back. $10 billion of commercial mortgages, those would be loans for someone to buy an office building, or build an office building, or something like that.발음듣기
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Those are essentially derivative securities that are derived from mortgage backed securities.발음듣기
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And we focused on that because this is really the crux of everything that everyone's been focusing on since the credit crunch started.발음듣기
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Although, I'll throw it out there, this is just the first wave. This is what's deteriorated so far.발음듣기
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Housing prices have gone down, you had all of these people with these liar loans where you could make up your income and get a million-dollar loan with no money down.발음듣기
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But you can imagine, if the economy gets bad enough, then a lot of these commercial mortgages are going to start looking not so great either.발음듣기
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And actually, there was an article that I read this morning where they talked about because of all of the turmoil in the financial system, because of this piece, that the commercial vacancies actually going up.발음듣기
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And a lot of the people who own commercial mortgages, they're actually getting a little bit worried right now because a lot office space is going free.발음듣기
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And I gave you the example of well what if the stock market is actually valuing this thing at an equity of $1.5 billion.발음듣기
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So what if the stock market is saying no, I think that this company's equity is only worth $1.5 billion.발음듣기
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And a rationale for that could be that they just think that this asset right here is worth $1.5 billion less.발음듣기
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Anyway, I just wanted to make that point because a lot of people often get confused between book and market value.발음듣기
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Why is Hank Paulson, and Ben Bernanke and George Bush, and seemingly everyone else, so scared?발음듣기
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The logic goes, well if this is just one bank and maybe these things are worth zero, what's the problem?발음듣기
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If these things are worth zero, this one bank declares bankruptcy, and it just gets resolved in the bankruptcy process.발음듣기
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Or, there's another scenario where you say, oh well this one bank, maybe this isn't worth zero.발음듣기
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And as long as people just continue to loan it money, it should be able to be fine and it'll weather out the storm.발음듣기
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Most of the loans we're familiar with in our personal lives, maybe a mortgage, where it's a fixed term, 30 years, at the end of it you've paid all of the interest and you've completely paid off the loan.발음듣기
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And maybe its term, they'll give you the money for some period of time, let's say it's for three months.발음듣기
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We know that that's not the exact math, but you'll pay it's actually 1.07 to the 1/12 power, but it's roughly 1/12 of this.발음듣기
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But in a normal credit environment, most companies can say, OK I'll borrow this $10 billion for three months at an annual rate of 7%.발음듣기
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And then when three months pass, I'll just got another loan, maybe from the same lender, maybe from another lender, that has maybe similar terms.발음듣기
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What's happening now is you have these short term loans, let's say three months, and then when it comes to renew, the bank or whoever lent you this money says, I'm not so sure anymore.발음듣기
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And if anything, we know that a lot of these hedge funds out there, they're doing more homework than me, the bank, or the lender is doing, or at least these ratings agencies are doing.발음듣기
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And I know that you have some type of assets, you have some of these residential mortgage backed securities, or you have some of these derivative assets there.발음듣기
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In fact, seldom you'll actually even see this much transparency on a company's balance sheet.발음듣기
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So if I'm the person who lent them the money, I'll be like, you know what, I saw Bear Stearns go down.발음듣기
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And then you go out, if you're this bank, you say, OK well let me look and find someone else.발음듣기
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If you really think these assets are worth enough, why don't you sell these assets, and maybe some other assets, and then you can be good for your money?발음듣기
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So what you do when this comes due, since you can't get any other loans, let's say that you sell these.발음듣기
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But just think of it this way, leverage is the ratio of how much assets you have over how much equity you have.발음듣기
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And so if you think about someone who has a lot of assets, but they're controlling it with very little equity, they have huge leverage.발음듣기
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This person, everyone's a little scared after Bear Stearns and Lehman Brothers and they say, I'm not prepared to renew this loan to you.발음듣기
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And you go out into the credit markets and no one else is willing to give you this loan, but you're like, OK fine, I have these commercial mortgages.발음듣기
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Liquid securities means that there's a market in them and that you can find buyers who are willing to buy them.발음듣기
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But let's say since you have to kind of do it in a fire sale type of situation, since you have to do it very quickly and everyone's a little scared, let's say you only get $9 billion for these.발음듣기
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Because I had $10 billion of assets. and I had to essentially write them down to $9 billion, because that's what I got for them.발음듣기
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So if I'm the company, remember this $4 billion was what the company said it was worth, the $2.5 billion was what the market said it was worth.발음듣기
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And just to think about it, why did our book value of equity go from $3 billion to $2 billion?발음듣기
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Well, because I actually thought that these commercial mortgages were worth $10 billion, but when I had to sell them really fast, I only got $9 billion for them.발음듣기
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And now notice something here, the book value of this residential mortgage backed security, at least what this bank management says the book value is, is $4 billion.발음듣기
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I shouldn't have crossed it out, let me write it again. $4 billion, the $2.5 is what the market was saying.발음듣기
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