Farrell: What The Market Wants (Needs) To Hear

I believe the government has to step in and guarantee all interbank transactions and to invest directly in the banks themselves. These are not new ideas but what has not been talked about is how much is needed.

The IMF issued a report the other day that estimated the losses on the collateralized debt will be $1.4 trillion. So far about $521 billion in losses and write-down's have been taken. Keep in mind that some of the write-down's are mark-to-market write-down's and not actual losses. Against that some $379 billion in new capital has been raised (73 percent of the loss).

I have read some reports from some very smart people that figure about 2/3 of the losses need to eventually be replaced with new capital. If that is right and if the $1.4 trillion is right then $1.4 minus the $521 taken so far leaves $879 yet to be acknowledged. If we were to replace 2/3 of that, new capital required would be $586 billion (2/3 of 879.)

The above numbers appear extreme to me but so does an S&P down over 40% and I didn't guess that was coming. The only player with pockets that deep is the government. What would be important is for the government to avoid the scorched earth policy it has followed so far. In hindsight, Lehman shouldn't have been allowed to go under. The preferred stocks of FNM and FRE should not have been zeroed out.

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  • Part of the hesitancy in buying financial stocks is the thought that the government is going to step in and we don't know what their pound of flesh will be so why buy. There can be no pound of flesh. The patient is in for open heart surgery. Get the job done and worry about life style changes after.

    The participation should be preferred stock with a reasonable dividend attached. Private participants should be encouraged to join on the same terms. There an equity kicker would be appropriate because that could be considered permanent capital and the government would want to be paid back ASAP. I heard Wilbur Ross on "Squawk" say this morning that he could be interested in such an investment. Being partners with the Feds makes your investment a lot safer and gathering other funds lowers the governments need to take the whole thing.

    I think the market is waiting for such an announcement.