U.S. Bailout Plan may face stiff opposition

The US government has proposed to buy up to $700 billion of mortgage assets, in a bid to end financial carnage on Wall Street. The key elements are as follows:

* Buy any mortgage-related assets, both residential and commercial, for a two-year period. The types of mortgage assets this could cover and how long the government could hold them is left wide open, as is how they would be valued.
* Up to $700 billion in mortgage assets could be bought at any one time.
* Broad authority granted to decide how to purchase, manage and dispose of the assets, including setting up a special fund and naming financial institutions to work for the Treasury Department.
* Assets must have been originated or issued before September 17, 2008, by a bank or financial institution with U.S. headquarters.
* The Treasury Secretary would be given these powers to ensure stability or prevent disruption of financial markets and to protect the taxpayer.
* No court or government agency could review the secretary's decisions. The secretary would report to Congress within the first three months and then twice yearly.
* The U.S. debt limit would be increased by $700 billion to fund the plan, to $11.315 trillion from $10.615 trillion.

For more on the proposal, check out WSJ.online & Marketwatch.

The proposal in the current form is likely to face stiff opposition from Democrats-controlled Congress. While the Bush administration's primary goal was "to stabilize the financial markets by removing hundreds of billions of dollars in “illiquid assets” from the balance sheets of banks and financial institutions", this sentiment may not be shared by Democratic lawmakers, who may insist that any plan would also have "to provide relief to millions of families that were poised to lose their homes to foreclosure".

The second important issue is the need to sort out the pricing for the buying of the mortgage assets. As noted by WSJ.online:

However, the government may find itself in a quandary: Does it pay more than fair-market value for hard-to-assess distressed assets, putting taxpayers on the hook for any losses? Or does it drive a hard bargain, buying for pennies on the dollar? The latter approach would further hurt financial institutions, since they would have to write down the losses and take additional hits to their balance sheets. The Treasury department, which hasn't commented on specifics about the plan, is expected to propose issuing debt in $50 billion tranches to fund the purchases.

For more on the short-comings of the proposal, you may like to read Paul Krugman's article entitled "No Deal", or Sebastian Mallaby's piece entitled "A Bad Bank Rescue" or The Aleph Blog's "Oppose The Treasury's Bail-out Plan".

I believe that the proposed bank rescue is likely to put a floor on the market for mortgage assets as well as the stock markets. From this temporary bottom, the stock markets are likely to rally higher in the weeks ahead. However, the short-term outlook is hard to predict, due to the opposition to the proposal. I believe that the Friday's rally could see strong profit-taking in this week, which could come as early as Tuesday. For those who are looking to buy some stocks, you can wait for a pullback in the latter part of this week. For traders, you may like to use the Monday's rally to do some profit-taking.