Kudos to Merrill, Lone Star on their deal

Merrill Lynch & Co. Inc's actions last week may well have marked the beginning of the end of the financial crisis that has gripped the economy for more than a year.
AUG 04, 2008
Merrill Lynch & Co. Inc's actions last week may well have marked the beginning of the end of the financial crisis that has gripped the economy for more than a year. New York-based Merrill capitulated, accepted that mortgage-related asset prices are unlikely to recover anytime soon and sold more than $30 billion of those assets at a steep loss, virtually clearing its inventory. It also took steps to raise more capital. The move will increase pressure on other large financial institutions likewise to clear their books of mortgage-related assets. Clearly, Lone Star Funds, a private-equity firm that bought Merrill's securities, thinks that the securities will ultimately be worth significantly more than the 22 cents on the dollar it paid for them. If correct, it stands to make huge profits for its partners. Presumably, other private-equity firms and hedge funds will take a look at Lone Star's deal, and if they think that the Dallas firm is right, they will also step up to buy pools of asset-backed securities from other troubled financial institutions. Thus, Merrill's deal with Lone Star might have put a floor under the prices of mortgage-related securities and begun to blow away the clouds of uncertainty about the balance sheets of banks and investment banks. That would be a key step toward not only the recovery of these institutions but also the economy. One of the anchors holding back a recovery has been the lack of transparency in the asset-backed-security portfolios weighing on the balance sheets of major institutions. The institutions themselves didn't know for sure what the securities were worth and, as a result, didn't know what their capital positions actually were.That made it difficult for commercial banks to lend to companies and for investment banks to under-write new issues. Now they all have clues as to the value of their asset-backed portfolios and hence their true capital positions. If even some of them follow Merrill's lead, the financial markets should begin to unfreeze. The Merrill-Lone Star deal, the steps Congress has taken to shore up Fannie Mae of Washington and Freddie Mac of McLean, Va., and provide relief for struggling homeowners, and the moves by the Department of the Treasury and the Federal Reserve, should be enough to halt the economy's slide. John A. Thain, Merrill's chief executive, deserves praise for making the difficult and painful decision to dump the assets for pennies on the dollar, and John Grayken, chairman of Lone Star, and his partners deserve credit for taking the risk of buying the assets. Unlike the members of Congress, or Treasury Secretary Henry Paulson or Fed Chairman Ben S. Bernanke, they have taken actions that involve personal financial and career risk.

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