What's So Great About Being a Bank?

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I want a new toaster! Maybe a microwave, too. Anyone remember when banks tried to attract deposits with a veritable wagonload of small appliances? As more and more companies morph into banks, competition for deposits is going to again become fierce. I'm seriously hoping to update my kitchen.

So far, the only enticement I've seen from banks is a slightly better-looking CD rate than the guy next door. As I emerged from the subway the other day, someone handed me a flier advertising a 4% six-month CD from Citibank (NYSE: C). That's supposed to tempt me?

Somehow, handing over my hard-earned cash to an outfit seeking emergency help from the federal government just isn't that compelling, even for a 4% annualized payback. (At the least, I'd like a new coffeemaker thrown in.)

If you haven't noticed, cash is king, and everybody wants yours. The only way most firms can get hold of your cash is to become a bank. Consequently, banking has suddenly become cool -- everybody wants to be a bank. (If you doubt me, consider the new website Startabank.com.)

Most recently, American Express (NYSE: AXP) announced that it, too, had become a bank. Like Goldman Sachs (NYSE: GS) and Morgan Stanley (NYSE: MS) before it, AmEx applied to the Fed a few days ago and got "express treatment." Why the rush? Because applications for funding from the Troubled Asset Relief Program (TARP) had to be in by Nov. 14, and you can't apply for funds under this program unless you're a bank or thrift holding company. Get it?

(By the way, do you find yourself wondering if the name TARP was accidental, and if not, how many hours of Treasury time were spent dreaming up a name with such a perfect acronym? It could, after all, have been something like Federal Lenders' Organization Plan, or FLOP.)

Congratulations, you're a bank
While being a bank exposes companies to greater regulatory oversight (not that the scrutiny of our government watchdogs amounts to much), it also puts these companies in line to borrow at the Fed window, to access TARP funds, and to participate in the new FDIC Temporary Liquidity Guarantee Program (TLGP). This new plan, which has just gotten rolling, allows companies to, in effect, "rent" FDIC insurance for 75 basis points for a period of three years on debt refinanced by June 30, 2009.

The need for deposit-generated funds is heightened by the drastic shrinkage in new bond issuance. In October, only $28.4 billion in new U.S.-dollar denominated bonds were sold, down from $102.3 billion the year before. The 2008 total includes only $698.5 million in speculative-grade sales -- one issue -- compared to $22.1 billion in the 2007 period. Furthermore, rates on recent sales have been punishingly high. For example, Time Warner Cable (NYSE: TWC) (barely investment grade) sold 10-year notes last Thursday with a pricey 8.75% coupon.

Consequently, more and more companies are trying to access cash held by individuals -- you and me. The only way to do that is to become a bank. Attracting deposits is considerably cheaper than the cost of issuing new debt. One financial services executive told me that the cost of bringing in deposits through a branch network is only about 250 to 350 basis points -- surely a bargain compared to prices being paid in the bond market. (Of course, that's before we get into the whole toaster issue.)

So sorry, you're not a bank
Surveying the possible survival routes open to financial services companies, it is clear that not all will enjoy the same opportunities. Until a week ago, the Federal Reserve had balked at allowing companies like GE Capital (part of General Electric (NYSE: GE)) and GMAC (a minority 49% of which is still owned by General Motors (NYSE: GM)) to participate in the bailout. (Although GE is already participating in the government’s Commercial Paper Funding Facility -- known on the Street as the "GE Rescue Plan" --  and the TLGP program. Think about it ... a bank insurer is now insuring up to $139 billion in debt of a non-bank).

However, in his press conference last Wednesday, Treasury Secretary Henry Paulson appeared to acknowledge the need to pony up assistance to a broader range of financial services companies, focusing especially on those making credit available to consumers.

The Fed is, in effect, making life-or-death decisions when accepting or rejecting a company for government assistance. Becoming a bank holding company and inclusion in federal programs pretty much guarantees survival. Exclusion can sound the death knell. By comparison, toasters seem pretty inexpensive.