Linus Wilson submits:
The U.S. Treasury has finally taken a small step toward trusting
markets. It normally cuts deals with banks before investors can
make an offer on the taxpayers' warrants. Taxpayers obtained
warrants as part of their banking sector bailout in the Troubled
Asset Relief Program ((
it announced that it would be auctioning off the warrants of JP
Morgan Chase (
), Capital One Financial (
), and TCF Financial (
). According to
Dow Jones Newswires
, this Thursday, December 3, 2009, it will auction off taxpayers'
nearly 12.7 million warrants to buy Capital One Financial (
These warrants that expire on November 14, 2018, give the holder
the right to buy a share of Capital One's stock at a price of
$42.13 per share at any time before the expiration date. According
to the preliminary
, these warrants will trade on the secondary market under the
The second price, sealed bid, Dutch auction mechanism outlined
in the prospectus is very conducive to small investors
participating. The minimum lot size is 100 shares like most option
contracts. The highest price that sells all the warrants (subject
to a reserve price of $7.50) is the uniform price that all bidders
pay. If an investor bids over the reserve price, he or she will
receive all the warrants she bid on. Only bidders that bid the
reserve price will get a fraction of their desired quantity. It is
generally optimal for bidders to bid their maximum willingness to
pay in a second price, Dutch auction.
Consider the following example where about 12.7 million warrants
are being auctioned. Bidder A bids for 2 million warrants at $25
per warrant; Bidder B bids for 10 million warrants at $24 per
warrant; and Bidder C bids for 1 million warrants at $21 per
warrant. If all other bids are lower than bidder C, then the price
set by auction is $21 per warrant. Bidder A gets 2 million
warrants, and Bidder B gets 10 million warrants. Bidder C gets
about 0.7 million warrants or about 70 percent of her desired
quantity while the higher bidders get all the warrants they
In 1983, the U.S. Treasury auctioned warrants obtained from
bailing out Chrysler Motors for $311 million or about $675 million
in 2009 dollars, according to my
. Chrysler was the winning bidder. Nevertheless, the bidding
process was substantially different. A bid had to be for all the
warrants on offer not small lots of 100.
Further, it was a first price, sealed bid auction. I estimated
that the Chrysler auction came much closer to my middle estimate of
the theoretic value of the warrants than negotiations had achieved
for the first twelve TARP warrant repurchases.
Whether or not investors endorse or reject my estimates of $19
to $30 per warrant, I am glad we are putting our faith in markets
not bureaucrats even for just one day.
This is not investment advice.
Warrants take active management and may not be suitable
investments for some investors. I do not plan to bid in the
upcoming warrant auctions. I own broad-based index funds. I do
not have long or short positions in individual securities
issued by Capital One.
I have no positions in COF, JPM or TCB.
Krugman: The U.S. Needs to Stay Committed on Job