If you think the banks have bottomed and want to ride the wave up, then XLF is for you. The investment includes companies from the following industries: banks, diversified financials, insurance and real estate. The fund will normally invest at least 95% of its total assets in common stocks that comprise the relevant Select Sector Index.
Turning Toxic Assets into Gold
All week you will probably hear about “toxic assets” and the government’s plan to rid the banks of these “bad” assets on their balance sheets.
But several astute readers have already alerted us all:
Today’s “toxic assets” are tomorrow’s “hot buys.” The next scandal is going to be stories on wealthy Wall Streeters making a fortune buying “toxic” assets financed by the government as the real estate market recovers.
That just might be the case. Here is one scenario that weaves a silver lining into all those assets the government just might be buying on our behalf…
Take the example of Mike. He bought a small condo in the burbs of DC for $200,000 several years ago. The market was hot; he could not go wrong his agent said. He put $20,000 down and took out a 7% note from Countrywide (now Chase (JPM)) for $180,000.
Now conditions outside the beltway recently got bad for everyone. The housing market slumped. The condos in his complex are listed for $110,000 and not selling. To make matters worse, Mike lost his job in November and just missed the first loan payment ever in his life.
Is this mortgage a toxic asset for Chase? You bet.
Let’s assume that under the new Treasury plan, a private investor fund and the government buy this asset at a discount. (And a whole bunch more just like them). Why? So Chase can show more cash and liquidity on it’s books and restore confidence to it’s depositors that it can cover any withdraw requests.
The story continues. Mike finds a job three months from now. He starts making his payments again. Further, because of the discount paid for the note, the investors and the government have lowered his monthly payments, principal, and will forgive his past back payments. He now is paying on a $120,000 note at 5%. His job looks quite stable.
Now let’s look ahead 5 years from now. Mike has been current on his note ever since his new job. He has paid the investors and the government 5 years of interest at 5%. Condo values have recovered and several units in his building just sold for $230,000. Will anyone buy that note? You bet they will.
You will no doubt hear more details on the Treasury’s plans. There may be more outrage at the government assisting big banks in their new quest to become liquid and trustworthy again. Remember that just because those assets might look toxic today on the US government balance sheet, that doesn’t mean they will be toxic forever. This just might be one of the better investments the government has made on our behalf.