Advisers are wary of the federal toxic-debt program

The government’s Public-Private Investment Program — designed to remove bad assets from bank balance sheets and promote lending — will help turn around the economy in the short run, but perhaps not long-term, according to financial advisers.

Announced last month, the Department of the Treasury program is a two-pronged effort to provide favorable government financing for public-private partnerships to buy troubled mortgage loans and mortgage-related securities.

In the so-called legacy loan program, banks could sell pools of residential mortgages to individuals and institutions through the Federal Deposit Insurance Corp.

Under the legacy securities program, the Treasury Department will accept proposals from institutional investors to purchase pools of mortgage-backed and mortgage-related securities from banks and other financial institutions.

“[The PPIP] will work to some degree in terms of lowering interest rates in the short run,” said Lou Stanasolovich, president and chief executive of Legend Financial Advisors Inc., a Pittsburgh investment advisory firm that manages about $350 million.

But he doesn’t think that the program will work in the long term.

“Where the money should be going is trying to restructure homeowner debt in terms of modifications, lower interest rates [and] extended-payment terms, in ex-change for equity on the sale of the home,” Mr. Stanasolovich said.

He is also critical of the government’s using taxpayer money to keep banks afloat, which he said benefits primarily bank bondholders.

“The government is selling the taxpayers down the river,” Mr. Stanasolovich said. “The bondholders are being protected by the government keeping the bank alive, even though investors should bear the risk of losing their investment.”

However, some advisers think that the PPIP is a good idea.

The program will work over an extended period, but investors must expect volatile markets for the next several years and lower economic growth than in the past, said Matthew Chope, a partner with the Center for Financial Planning Inc. in Southfield, Mich., which manages about $550 million.

Even when the economy resumes a more normal growth pattern, “there will be a slower growth pace for the economy than we’ve been accustomed to for the past two decades,” Mr. Chope said. Growth in gross domestic product could slow to 2% per year, versus recent growth of about 3%, he predicted.

The program’s aim is to help thaw the credit markets, Mr. Chope said.

“The crisis period has passed. Now it’s going to take a long time for spreads to shrink back to normal,” he said, referring to the unusually high rate of interest that must be offered on corporate bonds to attract buyers, compared with the record-low interest rates on comparable Treasury securities.

Some elected representatives believe the PPIP may be too generous to institutional investors.

In a letter to Treasury Secretary Timothy Geithner on April 7, Rep. Darrell Issa, R-Calif., the ranking minority member of the House Oversight and Government Reform Committee, wrote: “I was troubled to learn that the PPIP designates a select few ‘fund managers’ and restricts participation in the plan to an elite group of industry titans,” referring to a requirement that purchasers of these securities have at least $10 billion in assets under management.

These institutions will have the ability to borrow non-recourse debt from the U.S. Treasury.

“Average Americans of modest means should also be allowed to buy shares or have some means of buying into the program,” Rep. Paul Kanjorski, D-Pa., chairman of the House Financial Services Committee’s Subcommittee on Capital Markets, Insurance and Government-Sponsored Enterprises, wrote to Mr. Geithner.

But others feel that the government backing is generous to smaller investors as well and that investors could reap big gains.

Under the legacy loan program, the Federal Deposit Insurance Corp. will guarantee loans that can be as high as 85% of the capitalization of the Public Private Investment Fund.

“This is very favorable financing and very favorable leverage, and it’s available for any size bank or any size investor,” said Guy Ackermann, a partner in the Chicago office of Southfield, Mich., public accounting firm Plante & Moran PLLC. “You would think that financial advisers would potentially recommend some of their clients as passive investors to get in the game.”

Mr. Ackermann, who worked with the Resolution Trust Corp. of Washington when it liquidated assets from failed savings-and-loan institutions, offers consulting services to banks as well as funds and equity managers who raise capital to invest in the PPIP program.

But not all advisers are convinced they should recommend PPIP investments to clients. Charles Bennett Sachs, a vice president and wealth manager with Evensky & Katz Wealth Management, said his clients have veered over the past couple of months from wanting to avoid all risk to wanting to take on too much risk.

“They have to understand the risk of it,” Mr. Sachs said of investments in the PPIP. “Perhaps [they could] assign it to a very small portion of their portfolio,” he said. Evensky & Katz manages $600 million and is based in Coral Gables, Fla.

E-mail Sara Hansard at [email protected].