business

Bill Cooper, no fan of government bailouts, didn't mince words this spring when he described having the U.S. Treasury Department own 3.2 million warrants of his bank's stock.

"It's like having your mother-in-law move into your downstairs bedroom," said Cooper, chairman and chief executive officer of TCF Financial Corp. of Wayzata.

But Cooper's rocky relationship with the U.S. Treasury came to a happy end last week, when the government auctioned off the warrants it owned in TCF's stock at well above the expected price.

The upshot: Mom not only moved out of TCF's basement, but she walked off with bundles of cash just in time for the holidays. Specifically, the U.S. Treasury collected $9.45 million, about double what the feds sought, in a public auction of TCF's warrants. The securities give the purchasers the right to buy TCF's stock at a set price in the future.

Though the money is just a tiny drop in the bailout bucket, TCF's auction represents one of the few notable successes of the U.S. Treasury's Troubled Asset Relief Program, or TARP. Not only did the U.S. Treasury pull in far more than it bargained for, but the unexpected interest in TCF's warrants also means the federal government may have an easier time than previously thought untangling itself from the nearly 300 publicly traded banks that have received federal bailout money, say analysts.

The auction of TCF warrants was closely watched because it was only the third set of bank warrants auctioned off thus far under TARP. The other two -- banking giant J.P. Morgan Chase and credit card lender Capital One Financial Corp. -- were much larger institutions, and the market for their warrants had more gravity. As a result, up until the very day of TCF's auction, there was doubt about how investors would react, or if the auction would succeed.

A strong market for warrants also means many banks will be relieved of the obligation of having to buy back TARP warrants from the Treasury. Instead, they can use that cash to raise dividends or make more loans, say analysts. For the Treasury, it portends at least a small return on the $250 billion it has invested in the nation's banks.

"After TCF's auction, [the Treasury] will be a lot more comfortable bringing more bank warrants to auction," said Linus Wilson, a finance professor at the University of Louisiana at Lafayette, who has written extensively about TARP. "It's a good development for TCF, but it's also good news for taxpayers."

Many banks that got bailout funds from the Treasury repurchased their own warrants when they returned the government assistance. But in the case of TCF, J.P. Morgan and Capital One, the companies and the Treasury could not agree on a warrant price. The Treasury, already facing criticism that it was accepting prices for the warrants that were too low, organized public auctions.

TCF, Minnesota's third largest bank by assets, received $361 million in government assistance in November 2008 and paid that money back in April -- the first large bank to repay bailout funds.

Good news for all parties

But there was considerable uncertainty as to how investors would react to the auctions. The warrants had a much longer exercise period -- 10 years -- than the standard options traded on public exchanges, which only go out two years. A longer exercise period on a warrant can magnify both the potential return, and the losses. It was, said Wilson, "uncharted territory."

Yet, the auctions went far smoother than some expected. On Dec. 16, the Treasury said it sold 3.2 million TCF warrants at a price of $3 each -- double the Treasury's minimum bid price. The warrants have a so-called "exercise price" of $16.93 and expire in November 2018; which means that any time over the next nine years holders of the warrants can convert them into shares at that price. Given that TCF's stock is currently trading at about $13.80 a share, this means the bank's shares must increase at least 44 percent to $19.93 a share ($16.63 plus the $3 warrant price) for investors to break even.

"It's a bullish signal," said J.P. O'Sullivan, associate director of banks and thrifts at SNL Financial, a research firm in Charlottesville, Va., that has tracked TARP closely. "It says that there's sentiment out there that TCF's price over the next number of years is going to go well above that warrant strike price," O'Sullivan said.

Harrison Grodnick, a senior portfolio manager at the Minneapolis Portfolio Management Group, which owns 2 million shares of TCF, said the $16.93 strike price is "very attainable," given the bank's strong balance sheet. TCF shares were trading as high as $23.58 in mid-September 2008, before the financial crisis intensified and rising loan losses caused investors to pull out of bank stocks.

Several analysts who follow the options markets were surprised at how well the TCF warrants performed.

Bernard Chriqui, vice president of equity derivatives trading at Nomura Securities in New York, valued the warrants at $2.50 a share based on a number of factors, including the bank's expected dividend payouts and volatility in its stock price. As of Thursday, TCF's warrants were trading as high as $3.30 on the secondary market. Trading was unexpectedly lively, with more than 60.000 warrants trading hands.

"The government got a really good deal on this one," Chriqui said.

Chris Serres • 612-673-4308