Treasury's New Pot of Gold

March 23, 2009 - 5:54PM

Bank stocks led a 500-point rally on Monday in the wake of the U.S. Government's latest rescue plan.

Major financial services firms like JPMorgan Chase (JPM), Wells Fargo (WFC), Bank of America (BAC), PNC Financial Services (PNC), and Citigroup (C) gapped up double digits after Treasury Secretary Timothy Geithner unveiled details for his long-awaited proposal for righting the U.S. financial system.

Geithner's plan embraces a quasi public-private partnership that would oversee the purchase of up to $1 billion in non-performing assets related to a souring housing market. The Federal Deposit Insurance Corp (FDIC) will backstop the loans.

Treasury, along with the Federal Reserve, is pulling out all the stops to get credit markets flowing again. On top of the $700 billion TARP program initiated by then-Treasury Secretary Hank Paulson, the central bank is expected to pump $2 trillion more into the economy this year. Last week, the Fed announced its intention to purchase $1.15 trillion in Treasury bonds and mortgage debt.

Congress has joined in on the fray of late by moving to restore the uptick rule as well adjusting mark-to-market accounting rules that have weighed down bank balance sheets.

For all the good intentions of Treasury, the Federal Reserve, and Congress, one thing is clear: central institutions are caving into Wall Street's demands.

Toxic assets derived from a plunging housing market seeped into the financial system's bloodstream, leading to the collapse of Lehman Brothers, IndyMac Bancorp, Fannie Mae, and Freddie Mac. The root cause of a global unwinding in equity prices is the housing market's bursting bubble, poisoning asset values across the board. By committing to clear out toxic assets created and packaged by Wall Street, the Treasury Department is effectively taking responsibility for the institutions that sank the worldwide economy into its worst meltdown since the Great Depression.

Investors have reacted favorably to the latest round of free money doled out by federal officials. Since hitting a near-term bottom on March 9th, the S&P 500 has risen 19%. Banks have led the rally, posting exponentially larger returns as investors stampede back into dramatically oversold stocks. Citigroup, acting as the poster child for renewed enthusiasm in financial sector, has tripled in price on a rebound from under $1/share.

While it remains to be seen if this Treasury/Federal Reserve-led rally has legs, money printing press overdrive effects are slowly taking hold. Despite macro pressures biting into demand, oil prices have surged back above $53/bbl. Gold, a popular hedge against inflation, is roughly $50 away from $1,000/troy oz. And Treasury yields are still at historic lows with the benchmark 10-year yielding 2.66%.

Despite looming inflationary pressures, Wall Street appears to be appeased for now. Main Street should remain skeptical.