Banks Buy Toxic Assets

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All along wall street, bankers are acting like amputees who can still feel their phantom limbs. Despite losing billions and getting bailed out by the government, many seem to think that nothing has changed. That deranged attitude explains why the bonus money has continued to flow despite the bailouts. And it explains why the public and Congress have revolted. Their anger is about more than money; it’s about the infuriating, though not surprising, posture from Wall Street.

It’s only barely an oversimplification to say that banker pay caused the meltdown. Pay schemes were set up to massively reward bankers for short-term profits with little regard to the long-term performance of any deals that they constructed, trades they entered, loans they made, or mergers they advised on. In other words, there was little downside if deals went bad, as many of them did.

That’s why we’ve seen Merrill Lynch accelerate the distribution of $3.6 billion in bonuses after it was desperately grafted to Bank of America, including $33.8 million to the banker who advised on the calamitous Royal Bank of Scotland–ABN Amro merger. Never mind Merrill’s two straight years of multibillion-dollar losses. And the traders in AIG’s financial products unit—the group that arguably did more than any other to bring the world’s economy to its knees—still managed to get $165 million in bonuses even after the U.S. government took control of the insurer.

So is there a better way? Credit ­Suisse, a Swiss bank that has weathered the credit crisis better than most, created an ingenious and gratifying solution to the problem of outsize pay for Wall Street failure. It decided late last year to pay out part of its bonuses in toxic assets. On Wall Street, the old saying is that you “eat what you kill.” In this case, Credit Suisse is making its employees eat their own garbage.

What’s satisfying about Credit Suisse’s plan is that it shows that investment banks are capable of learning and bowing to outside pressure. Bonuses on average at the bank were down 44 percent in 2008 compared with 2007, and employees in the investment-banking division took a greater hit relative to others. Bankers at Credit Suisse did get about half of their bonuses in cash, but instead of stock, top employees, including all the managing directors (except for the very top dogs, who received no bonus at all last year), received an interest in what the bank is calling the PAF, the Partner Asset Facility. It’s made up of assets the bank valued at just over $5 billion after roughly $2.6 billion in write-downs—meaning that the employees got assets worth about 65 cents on the dollar.

Notably, that valuation is surely higher than what the assets would get if they were sold in the market right now. The great question about all these illiquid assets currently on bank balance sheets—one which goes to the heart of whether Treasury Secretary Tim Geith­ner’s bank-rescue plan will work—is what are they worth? Is the market setting fire-sale prices that don’t reflect their actual value, or are they truly impaired? The banks argue that the market has become temporarily irrational and that the prices it’s setting don’t represent the assets’ true value. In recent years, this hasn’t been an argument as much as a desperate belief. At least in Credit Suisse’s case, it’s putting its money where its beliefs (and employees’ mouths) are.

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