Monday, March 24, 2008

Advice for auction rate securities holders

I personally am not holding any auction rate securities (ARS), but the interest in them caused me to poke around a little. Although the short-term news is still rather gloomy, all is not lost.

If you are worried that your money in auction rate securities is "gone", simply relax, because you money is not gone. Sure, you cannot get at it right now, but that is a liquidity problem (short-term) and not a solvency problem (long-term.) You do not need to lie awake at night feeling like this is The Great Depression and your bank failed. It is not like that at all. So, relax, take a deep breath, and tell yourself that it is okay to sleep at night.

To repeat, your money in auction rate securities is absolutely safe (solvency) even if you cannot get at it right now (liquidity.)

That said, if you have money in auction rate secutities (or auction rate preferred shares or ARPS or auction rate preferreds or ARP) you will be in one of the following situations:

  1. You do not need the money today, but you are still worried about it. Do not worry at all. Period. Sure, you can tell your broker to get you out ASAP, but otherwise do not worry, at all. Period. Besides, you may in fact be earning a much higher rate of return due to the penalties borrowers pay when auctions fail. In other words, you may be paid to wait.
  2. You need the money today (or real soon) and all your broker can say to you is that the auctions continue to fail. You have two choices: 1) forego or defer that expense, or 2) borrow the money elsewhere. Do whatever makes your life work better for you. You may be terribly offended that your broker screwed you, but... get over it. Put simply, do not cut off your own nose to spite your broker's face. Get over it. Get on with your own life. But, be sure to keep clear records of all of the discussions with your broker and any real losses or actual costs incurred with coping with the lack of availability of your own money. No guarantees, but there are likely to be legal mechanisms for you to recoup some of the actual losses or additional costs that you incurred. But even if not, I repeat, do not screw up your own life just to get back at your broker. If it costs you an extra thousand dollars to borrow money until the auctions start succeeding again, frankly, consider yourself lucky, and move on.
  3. You need the money to pay taxes to the IRS. Relax. No problem. Call them directly ASAP and explain the situation. Worst case, set up an installment plan. Even if you do not have any cash to do an installment plan, relax, talk to the IRS directly, and trust me, they are willing to work with you. Sure, there may be penalties and interest, but some of that can be waived depending on your situation and assuming that you are upfront and communicate with them clearly and early. Again, keep records of all conversations and all costs, interest, and penalties, since there may be legal mechanisms to recoup at least some of them. And if you have never had to deal with the IRS before on an issue like this, trust me, they are not the big bad wolf that they are made out to be. They really will work with you. Yes, they really want their money, but that actually makes them fairly flexible. No free lunch, but not a disaster either.
  4. You need the money relatively soon, but not necessarily today or this week. Relax. Auctions are starting to succeed again, albeit in a spotty manner, if only because borrowers are refunding their debt to avoid the penalties that they pay when auctions fails. Tell your broker to get you out of ARS ASAP, but otherwise... relax. And, enjoy the higher rate of return you are earning. If the timing is getting too close for comfort, at least get a handle on the details of a loan or margin load from your broker, just in case.
  5. Some banks, brokers, or funds are actually taking the time and energy and their own money to restructure their auction rate securities to restore liquidity or at least partial liquidity. Maybe your broker or fund has not done so yet, but relax since there is some non-zero probability that this might happen in the coming days or weeks.
  6. You need the money now and it is too much to borrow elsewhere. You have two choices: 1) borrow from your broker or 2) take the hit from foregoing the large expenditure. The best you can do here is clearly document all conversations, all costs, all losses, all damages, and get ready for legal action to try to recoup those losses. OTOH, if your actual losses losses are no more than a few thosand dollars, you might be better off simply eating the losses and getting on with your life rather than spend the coming months and years being gragged along by the lingering legal proceedings.
  7. You need the money in a few months. Relax and hang in there. There may or may not be a resolution within the next month or two, but worrying about it will not gelp in any way. Besides, you will likely be getting a higher rate of return due to the penalties that borrowers pay for auctions that fail. As long as you have instructed your broker to get you out ASAP, sit tight and wait it out.

So, to be clear, you do have options. It is simply not true that holders of auction rate securities are totally screwed and without any options. Yes, there is a lot of anxiety and there is a lot of anger, but do not let any of that impact your own thought and decisionmaking processes.

Sure, you can also write and email and call all related parties and regulators and officials as well as both the financial media and general media. That never hurts and may help in this case.

As far as legal action, be very careful and very cautious and very skeptical. Even if legal action succeeds, it may take longer than it takes for auctions to start succeeding again and you may lose more of your money to the cut that the attorneys will take. Also, be clear to distinguish legal action to get access to your money and legal action to recoup losses, costs, and damages that you incurred as a result of not having access to your money. The former could be quite risky. The latter may be more attractive.

If you are trying to decide between legal action and borrowing from your broker, go for the latter and later you can try to convince your broker to cover the loan expense, particularly if you are a good solid client.

So, in short, relax, and give yourself permission to sleep well tonight.

 -- Jack Krupansky


At 1:06 AM EDT , Anonymous Anonymous said...

You are either an idiot or a shill. A lack of liquidity generally translates into lower values. And, the securities which have remained illiquid have inferior terms which no rational intelligent person would have entered into a true arms'-length negotiations. Hence, in those circumstances, they are worth less than their stated values.


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