Bad Bank ETFs – Cashing in on Fiscal Irresponsibility

Photo Credit: Planet Ware

The FDIC has proposed a solution to the banking crisis: absorb bad debt via a “bad bank,” which will be created to buy mortgage assets and other unprofitable portions of bank balance sheets in an effort to prop up banks. The hope is that clearing the bad assets off banks balance sheets will enable the institutions to lend, and that the FDIC will be able to repackage and sell the assets at a later date.

Oversight is the least of the problems

The new proposal has come under intense criticism as the nations’ banks will in effect become nationalized. Other fears stem from voters and citizens alike, who believe the new “bad bank” will be poorly managed, as the initial plan calls for just two people to guide the system. However, the true problem lies deep within the banking structure; the government could possibly take trillions of dollars in losses to help turn the banking system around.

How it works

The FDIC will buy the troubled assets at market value by issuing bonds and other securities to finance the operation. The new money will have to come from a variety of sources, as the total figure could be in the multiple trillions of dollars. Many are expecting that the federal government, through the Treasury Department, will have to flood the market with T-bills and bonds, and the Federal Reserve may have to step in to buy the debt.

Gold and silver

The initial response should be to play off the inflation risks associated with assuming all of this debt. For this reason, Gold and Silver ETFs are at the top of the list, even as their prices have risen dramatically in just a few short years. Gold and silver are both quick to respond to changes in the inflation rate, as they are considered the ultimate safe haven purchase. Gold and silver may be difficult to buy at spot or on the collectors market, but the ETFs GLD and SLV are the perfect solution.

Short Treasuries

Investors have poured money into treasury bonds to protect their investments as the credit crunch waned on. However, now that rates are at their lowest in decades and investors are eying better performing assets, the bubble should burst soon. The FDIC will not go at this plan alone; it will have to utilize the full power of the Treasury to fund the operation. With more treasury bonds hitting the market, lower prices and higher yields will result, which is exactly the goal of TBT. Year to date TBT has soared 28% year to date as investors are taking their money out of long dated treasuries and the government issues more at the current yield to cheaply finance its debt.

Take on the finance sector

The best way to profit will inevitably come from the financial sector as a whole. While UYG is an excellent option to double the XLF, its tracking has been askew in recent trading. The best option is still XLF to avoid any possibilities of poor tracking. Buy at $9.50 and you're enjoying November's prices on banks—not bad after the industry should be securing a complete bailout soon.