While the financial news media last week were focused upon the actions of Morgan Stanley possibly merging, and Goldman Sachs seeking to raise funds in lieu of being the next mega investment bank to fail, both took another direction that surprised just about everyone following their actions. Days later, they both were successful in beginning to resolve their own problems via the free market. Both Morgan Stanley and Goldman Sachs became regular bank holding companies, altering their status from classic investment banks. Morgan Stanley secured funding from Japan-based Mitsubishi UFJ Financial Group Inc. with a $8.4 billion investment for a 20% stake. Goldman Sachs found billionaire Warren Buffett who invested $5 billion in a deal viewed as a low risk-high return situation backed by preferred shares and common stock options.

With the landscape of smaller commercial banks shrinking, and expected to continue to disappear as the financial crisis continues to take its toll, both Morgan Stanley and Goldman may be well positioned to not only survive but obtain a healthy balance sheet status. It is expected that the fallout of other commercial banks will in time yield the two banks significant deposits and able them to secure even more stable funding for the long term. Within a few days of the Buffett announcement, Goldman raised an additional $5 billion. As both will now be under more scrutiny of the Federal Reserve as holding banks, they will have to learn how to operate with more regulations, more reporting, higher capital requirements, and not able to underwrite deals using financial instruments invented on the fly. Welcome to the world of Citibank, and Bank of America, viewed as the conservative banks on Wall Street, who due to just that notion has enabled them to survive the financial crisis and liquidity crisis of others. More foreign investment is expected with the likes of Britain’s Barclays plans to take over Lehman Brothers bankrupt operations, and several sovereign wealth funds have their eyes on U.S. based finance entities. If the U.S. Congress funds the $700 billion proposed bailout by the Treasury Department, business opportunities may actually be knocking back at the door of both Goldman Sachs and Morgan Stanley in a weird twist of fate.

Frustrated Officials

At a time when the country is on pins and needles waiting to see what Congress’s next move is in regards to the “no strings attached” 3 page $700 billion proposal from the Treasury Department, officials Henry Paulson (Secretary of the Treasury) and Ben Bernanke, (Federal Reserve Chairman) are publicly frustrated that Congress does not seem to heed their “do it and do it now or else” request. Congressional leaders and head of committees returned the frustrated notions. Both Paulson and Bernanke were grilled during hearings with the Senate Banking Committee and reportedly countered with warnings of millions of lost jobs and unemployment, more mortgage foreclosures, and a severe blow to money flow and credit unless the plan was approved while adding that their actions and the intentions of the administration and proposal were to support taxpayers ‘”This is all about the American taxpayer,” Paulson was quoted, and added “That’s all we care about.”

Both officials expressed public frustration as Republican and Democratic Congressional lawmakers voiced major doubt and skepticism about the effectiveness of the plan, lack of oversight and reporting, and overall feasibility of how the toxic securities now clogging up the credit system, could be disposed of and resold at a later date for a profit. A host of other concerns involving executive compensation, congressional oversight, conflict of interest issues, potential for fraud, and unprecedented request for authority are all proving to be problematic for the initial proposal. Funding in stages with perhaps $200 billion to start, and a potential milestone approach has been discussed.

In one reported exchange, democratic members were pushing the issue of accountability of financial firm executives and Paulson responded that that financial firms might not participate if pay limits were imposed.

One of the reported major concerns is that while the funding request would remove toxic securities from the balance sheet of banking concerns and free up the credit system, the ever growing rate of foreclosures may not be addressed and taxpaying homeowners will essentially foot the bill for the financial industry bailout while still face the possibility of loosing their homes.

Echoes of administration official’s remarks only months ago that the economy is strong, along with the rush to war plan and financial package for Iraq in 2003– are proving to be a major stopgap for the acceptance of the funding package.  In one reported exchange, democratic members were pushing the issue of accountability of financial firm executives and Paulson responded that that financial firms might not participate if pay limits were imposed. Two groups in the Democratic house are pushing for a smaller initial funding amount of $200 billion with a wait and see the results plan, both with strong oversight functions in place. Both the Senate and House members have expressed concern and much more significant information as to how the toxic securities would actually be purchased, packaged, and sold off at a later date to recoup losses—this being the backbone of repaying the $700 billion investment. Many members of congress expressed surprise at how little detail had been provided regarding this crucial matter, leading some to think that it has not been thought out yet. Still other committee members sought answers to why the Treasury—U.S. Government would not be able to actually own stock in the financial firms participating in the plan as a way of assurance of compensation and payback and controlling executive compensation.

Another seizure leads to more industry consolidation

The U.S. Treasury seized Washington Mutual Bank (WaMu) on Thursday after a run on the bank by its depositors left it under capitalized and unsound according to the Office of Thrift Supervision (OTS). Depositors reportedly withdrew over $16 billion from WaMu since mid-September. The failure represents the largest U.S. bank to fail to date. The FDIC stated that all customers will have access to funds and that all branches will continue to be open as business as usual on now under government control on a temporary basis.

In a deal that transpired simultaneously, JPMorgan Chase & Co. acquired Washington Mutual Inc.’s branch network for a one-time payment to the FDIC of $1.9 billion, making them the largest U.S. bank when measured by deposits. They are expected to fund the deal by raising $8 billion from the sale of their common stock. The deal is not expected to carry with it the major liabilities of WaMu, including shareholder, subordinated, and senior debt holders liabilities. The deal, adding over 2,000 branches to its own, will position JPMorgan to have nearly 5,400 offices in 23 States and $900 billion in deposits. Citigroup was also bidding on WaMu assets but elected to withdraw due to risk-return issues.

Long term side effects

It is apparent that a continued failure of U.S. Thrifts due to the financial crisis will lead to more banking industry consolidation, more regulation, and many indications are that despite the current bickering in the U.S. Congress, some type of bailout funding package using tax payer funds is likely to surface very soon. Whether it is the current $700 billion number in the news, or slightly more or less, it occupies a significant amount of funds used for a problem that unbelievably 3 months ago, didn’t exist.

Further side affects are twofold; The economic teams of the two leading presidential candidates John McCain and Barack Obama have been revising their positions and plans for program spending once either of them would take office in January 09. Both candidates have stated over the past two weeks that their plans for funding programs will change in recognition of the financial crisis and the proposed bailout.

One particular aspect that funding will effect will be that of infrastructure energy development programs. Funding for energy development, solar, nuclear power, and alternative means of weaning the U.S. off of foreign oil will be altered while military spending will most likely not be effected. While no specifics have been revealed, the financial crisis and the steep costs of the funding bailout are expected to have far reaching implications that reach into the lives of American citizens that the public and media have not even begin to think about yet.