Title:

The Announcement of TARP

Team #:

208

1. Introduction

There are many factors that are taken into account before conducting a study. The first,

crucial component is deciding on what will motivate your study. Our motivation for our event

study of the Troubled Asset Relief Program (TARP) stemmed from multiple areas. The first

source of our motivation stemmed from our interest in a recent topic that we have experienced

firsthand. Most events, like a stock split, we have not encountered first hand and although we

personally did not receive TARP funds we lived through it by ways of the media. Furthermore,
another aspect that motivated us was that there were still various parts of TARP, even a few

years later, that were still not understood. For example, the news was still producing stories

regarding TARP, such as: who received funds, who did not and why or why not. Lastly, we

were extremely passionate and interested about how ratios could help explain such activity that

TARP caused. We were very familiar with what ratios can prove yet we were inexperienced to

seeing ratios help with our event study.

The Troubled Asset Relief Program (TARP) was signed into law on October 13, 2008. The

program planned to use seven hundred billion dollars in order to give support to financial

institutions as well as the banking industry due to the hardships occurring in the economy.

TARP infused funds in a staged approach. The program first aided companies that were large

and had a weak capital structure. Then, the program gave assistance to smaller companies who

were better capitalized. Overall, TARP was widely regarded and had a positive, long lasting

impact on our economy. We will further discuss some previous research done on this topic that

helped give reason to our study.

The government went through a series of steps prior to announcing TARP on October 13th.

They had to figure out a way to divide the 700 billion dollars to the many banks that potentially

needed help. First they had to decide which banks were going to receive the bailout funds. This

was a difficult task since most banks assets were misrepresented to cover the fact that they were

doing poorly. Gorton and Huang (2004) and Bernardo and Welch (2004) came up with a theory

that the “high uncertainty regarding the value of bank assets, coupled with the low liquidity in

financial markets, is likely to lead to the undervaluation of financial institutions, regardless of

their financial performance.” It also brings up the point that when the banking system is under

stress due to limited liquidity and high information uncertainty, bank assets are likely to be

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mispriced. After deciding which banks they were going to give the money to, they ranked them

on the basis of which banks needed the money the most. The government then proceeded to

divide the money and allocate it to the different banks. While this whole thing was happening,

investors on Wall Street were trying to anticipate the government’s moves so they could invest

or sell accordingly. This was a very difficult task since the, “U.S. Treasury did not publically

reveal the criteria for capital infusion.” Stephen Wilson, CEO of CF Industries, said that “the

public perceived capital infusion as a weakness and that was so discouraging because nothing

could be further from the truth.” When TARP was finally issued, banks across the board took

hits on Wall Street. Although most banks needed the money, there were a few that were doing

fine on their own.

Based on our research, the government grouped the banks into two separate categories,

VB and IVB, in order to aid in their valuation of the banks. Banks were put into the category of

VB if they needed the bailout money and were going to receive it while banks were put into the

IVB category if they did not need the money but were forced to take it anyway. The government

also set up a miscellaneous category for banks that did not fit into the two set categories. Once

they grouped all the banks into their distinct categories, they were able to asses TARP funds

much easier.

In addition to our previous findings, there are many articles that clearly articulate the

positive effect TARP had on the market both conceptually and numerically. First, in an article

by Lei Liy of Boston College University, titled TARP Funds Distribution and Bank Loan

Growth it says “TARP investments significantly boosted bank loan growth for banks” As a result

of TARP, TARP banks extended significantly higher credit to consumers and businesses. This is

significant because if there is more credit being given to banks, then this will promote borrowing

3
by the consumers. Since there is more borrowing taking place, this will also increase the

consumer confidence in banks. If consumer confidence gets restored to what it was before the

financial crisis, then there will definitely be a positive effect on the market. Later on in the

article, it states, “The ultimate goal of TARP is to stimulate loan supply and restore credit owing

in the economy.” If consumers are able to see that TARP was reaching its goals that it set out to

do, this also promotes consumer confidence in the market. During that time, not many banks

were on a path to success. Therefore, when consumers were able to see that TARP was still on

its plan to success, it raised confidence levels of the public.

In another article titled Assessing TARP it says “Announcements of TARP capital

infusion had a sharply positive effect on valuations of recipient banks, particularly for larger and

earlier recipients, and those with higher credit losses…” The banks that gained the most out of

TARP were the big banks with higher debt. The banks that higher amounts of debt received the

most amount of money. Therefore, they were put on par with the banks that had less credit

losses and received less TARP money. Later, the article says, “…When capital infusions into

nine large financial institutions were announced, recipient banks experience an average excess

return of 14.9%.” During this period, the average market return was 11%. Therefore, you can

obviously see that TARP had a positive effect on the market, both conceptually and numerically.

2. Data and Methodology

The actual event study itself involved choosing 50 banks that received TARP money. To

find a list of these banks, we went to propublica.org, which continues to track the amount of

TARP money distributed to recipients. The 50 banks we chose were selected so that there were

both large and small banks, and that we could get the full spectrum of the organizations involved

in the event. Once we gathered 50 banks, we went to the Wharton Research Data Services

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(WRDS), and utilized the CRSP research database system. To find the daily returns for each

stock in the CRSP database, click on Daily Stocks, and then Daily Stock File. Our date range for

this study was October 10th, 2007 to October 14th, 2008. This included a one year estimation

window from October 10th, 2007 to October 9th, 2008 and our event window from October 10th,

2008 to October 14th. We used the ticker code for each bank, which we found by searching each

company in Yahoo! Finance. The information we needed in CRSP were the Company Name and

Ticker for identification, the Price and Holding Period Return for time series information, and

the Value-Weighted Return for market information. We then submitted our query to a *.csv file.

After doing the above work within the WRDS website, we ran a regression on the year

leading up to the announcement of TARP for each bank. We used the return of the individual

banks as the X value, and the return of the market as the Y value. This regression will give a

plethora of information, but we were only interested in the coefficient of the intercept or the

alpha, and the coefficient of the X variable which is also the beta of the banks at that time. This

is duplicated for all 50 banks, and to make things easier, we put column names to track all these

numbers.

The next step is to list the returns of the banks and the market for the event window of -1,

0 and 1, and then list the alpha and betas of the bank to the right of it for each day. (Note: The

alpha and the beta will be the same for the 3 days as they are based on the past year). Using these

numbers, we then figured out the predicted returns of the bank by using the formula, predicted

return equals the alpha of the bank plus beta multiplied by the market return. This formula again

is copied for all three days, so that we can get to the abnormal return.

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 To figure out the abnormal return or the return in excess of the predicted return for the

bank’s stock for any given day, we subtracted the actual return of the stock on that day by the

predicted return. From here, the abnormal returns are added together to find the Cumulative

Abnormal Return (CAR) for the event window. For our study, we decided to use the CAR for

days -1 and 0 (CAR -1,0) days 0 and 1 (CAR 0,1) and for all three days (CAR -1,1). Therefore,

to find the CAR for days -1 and 0, all one must do is add up the abnormal returns for day -1 and

day 0.

As you can see below in Table 1, the CARs for the 3 different event windows ended up

being CAR (-1,0) -.01342, CAR (0,1) -.03448, and CAR (-1,1) .101002. These CARs are

unusual, because in most cases the CARs for (-1,0) and (0,1) are in the similar to those of CAR (-

1,1). When we saw this number, we decided to do further research, and we realized that the

reason that the first two CARs were negative was because the market return for day 0 was almost

11%. Therefore, the predicted return for that day was a lot higher than normal. So when that

number which is unusually large is subtracted from the bank’s stock which in general were low

that day, caused the abnormal returns to be negative.

To exemplify this, please refer to example below:

Predicted
Day Date RET Return Alpha Beta VWRETD
0.07520 1.61860
-1 10/10/2008 6 -0.01901 0.000432 7 -0.01201
0.05901 1.61860
0 10/13/2008 6 0.186867 0.000432 7 0.115182
1.61860
1 10/14/2008 0.02838 -0.01415 0.000432 7 -0.00901

Predicted Abnormal
Day Date RET Return Return
-1 10/10/2008 0.07520 -0.01901 0.094216

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 6
0.05901
0 10/13/2008 6 0.186867 -0.12785
1 10/14/2008 0.02838 -0.01415 0.042526

As you can tell from the above example for Webster Financial Corp. the abnormal return

for day 0 is negative, while the other two days are positive (mainly because the market return

was lower and the bank’s returns were higher). Therefore, the negative value of day brought

down the CARs for (-1,0) and (0,1). However, for CAR (-1,1) the positive abnormal returns for

days -1, and 1, help balance the negative abnormal return for day 0.

Once we found our cumulative abnormal returns, we needed to find the information for

our variables. The two variables we chose to test were each bank’s debt ratio (to test leverage),

and each bank’s current ratio (to test liquidity). To compute the debt ratio, we divide the total

debt over the total assets. To find this information, we went to the COMPUSTAT database

within Wharton, and clicked on the Quarterly Updates – Fundamentals Quarterly link. From

there, we could find the balance sheet numbers for the last quarter of each bank before our day 0.

Note that for this study, although most banks’ last quarter before day 0 was 9/31/2008, this

information was not released until after day 0, so there should be no market reaction because the

market did not know the numbers. So, we had to go back to the second quarters for most banks,

6/30/2008. Our range was June 2008 to August 2008, to capture any banks which had an August

31st quarterly end. To find the debt for each bank, we clicked on Debt in Current Liabilities

(DLCQ) and Long-Term Debt – Total (DLTTQ) in quarterly data items. For total assets, we

clicked on Assets – Total (ATQ), and ran the query in a *.csv file.

For the current ratio, we also used COMPUSTAT. The current ratio consists of a bank’s

current assets over its current liabilities. In the same quarterly database, using the same range,

7
we selected any data item which had a cash and short term investments symbol (CHE),

receivables symbol (RECT), inventory symbol (INVT), and current assets other symbol (ACO).

For current liabilities, we selected any data item with a debt in current liabilities symbol (DLC),

accounts payable symbol (AP), and current liabilities other symbol (LCO). Given this

information, we ran a query in a *.csv file, and then computed the ratios for each bank.

We then ran a regression to test our variables in the day -1 to day 1 event window. Our Y

range was the cumulative abnormal returns for each bank from day -1 to day 1, while our X

range was our two ratios. The results are given in table 2, and will be explained later in the

paper.

3. Empirical results
Before further discussing our empirical results, it is important to understand abnormal

returns. They are the difference between the expected return of a security and the actual return.

Abnormal returns are triggered by extraneous events that take place in the market. An additional

measure that must be utilized is the cumulative abnormal returns (CAR). It is determined by the

sum of all the differences between the expected returns and the actual returns. As mentioned

earlier, the announcements of TARP funding is the event we decided to use to study these

changes in the abnormal returns. For our main event, Day 0 was the announcement of which

banks would be receiving TARP. The day before and the day after were assigned Day -1, and

Day 1, respectively.

From our results, which are displayed below in Table 1, we calculated the t-test for day -1

to day 0, which resulted in a statistic of -.856. This was the day it was announced Congress

would be discussing which banks may be receiving TARP. For this reason, the abnormal returns

had no changed drastically. However, on Day 0 to Day -1, our t-statistic had changed to -2.132.

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This may have been due to the fact that it was announced which banks would be receiving

TARP. Although the numbers are negative, this is the result of having negative CARS for the

banks. However, the changes in abnormal returns are increasing as seen in the difference from

zero. Additionally, for the entire three-day period, there was a t-test of 6.4 meaning the abnormal

returns had changed drastically.

One thing we needed to know for certain is whether these changes in the abnormal

returns were due to the recent announcements of TARP or if they were merely a coincidence.

One way in determining this was to calculate P-value. P-values indicate the probability that our

results are due to chance. When calculating the p-value, we did a statistical t-distribution of the

individual t-tests for each day while using a degree of freedom of 49 since our sample size was

50. Furthermore, we needed to use a tail of 2 during our statistic since we needed to test a 2-

tailed hypothesis. Our P-values can be found below in Table 1.

When there is a low p-value it is highly unlikely the events occurred due to chance. For

Day (-1,0) with a p-value of .3962, there is a 39.62% probability that TARP had no effect on the

abnormal returns. After the announcement on day 0, there is only a 3% chance that TARP had

not affected the change in abnormal return. Then for the overall period, the p-value is .00000005.

This shows there’s almost a 0% probably that our abnormal returns were due to chance and not

affected by TARP.

The regression sample using debt ratio and current ratio produced the following equation

to calculate the abnormal return for the three day event window: Cumulative abnormal return for

days -1 to 1 = -.049448845 + -.054271633*debt ratio + .167126622*current ratio. The debt ratio

had a negative coefficient, meaning that the more debt to assets a bank had, the less abnormal

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return the bank would have, likely due to investors being weary of banks which had too much

debt. However, coupled with the small negative coefficient and an average debt ratio of 23%,

the debt ratio variable only accounted for a decrease of about 1.25% in cumulative abnormal

return. Furthermore, with a p-value of .7666, the variable had no statistical significance to our

hypothesis.

Contrary to the debt ratio, the current ratio had a p-value of .0858, meaning that there was

a 91.42% chance our t-value of 1.7557 was not actually zero. This passes the 10% significance

level, but not the 5% significance level, meaning that there is some correlation between the

current ratio and the abnormal return, but there is not a strong relationship. The higher

coefficient of the current ratio indicates that there was a stronger reaction in the market for banks

which had better current ratios, which lead to a higher abnormal return.

4. Conclusions

Based on both our research and data findings, we have concluded that

References

“Preferred Stock effect from TARP” Going to Search. Web. Oct 2010.

www.uu.nl/.../REBO/REBO.../Stock_June%201%202010%20version.pdf

"SSRN-Assessing TARP by Dinara Bayazitova, Anil Shivdasani." Going to Search. Web. 30

Oct.

2010. <http://papers.ssrn.com/sol3/papers.cfm?abstract_id=1461884>.

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"SSRN-TARP Funds Distribution and Bank Loan Growth by Lei Li." Going to Search. Web. 30

Oct. 2010. <http://papers.ssrn.com/sol3/papers.cfm?abstract_id=1515349>.

"SSRN-The Financial Crisis of 2008: What Needs to Happen after TARP by Campbell Harvey."

Going to Search. Web. 30 Oct.2010.

<http://papers.ssrn.com/sol3/papers.cfm?abstract_id=1274327>.

"SSRN-The Participants in the TARP Capital Purchase Program: Failing or Healthy Banks? by
Jeffrey

Ng, Florin Vasvari, Regina Wittenberg Moerman." Going to Search. Web. 30 Oct. 2010.

<http://papers.ssrn.com/sol3/papers.cfm?abstract_id=1566284>.

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Table 1. Cumulative Abnormal Returns (CAR) for Your Event

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Number Company Event Date CAR (-1,0) CAR (0,1) CAR (-1,1)

1 POPULAR INC 10/13/2008 0.051511 -0.1462 0.0699994

BANK OF NEW YORK MELLON

2 CORP 10/13/2008 0.0965932 0.080523 0.2449239

3 JPMORGAN CHASE & CO 10/13/2008 -0.058866 -0.23026 -0.076047

4 CITIZENS REPUBLIC BANCORP 10/13/2008 0.2099502 0.0028 0.3757772

5 CITY NATIONAL CORP 10/13/2008 0.0052047 -0.06776 0.0013895

6 COMERICA INC 10/13/2008 -0.113015 0.01737 0.1092661

7 CITIGROUP INC 10/13/2008 -0.018316 0.066085 0.1832704

8 FIFTH THIRD BANCORP 10/13/2008 -0.139903 -0.00078 0.0952715

9 REGIONS FINANCIAL CORP 10/13/2008 -0.115462 -0.04006 0.1927059

10 TRUSTMARK CORP 10/13/2008 0.0155419 -0.09096 0.0804678

11 M & T BANK CORP 10/13/2008 -0.079739 -0.05878 0.0815818

12 U S BANCORP 10/13/2008 -0.066661 -0.11344 -0.050523

FIRST HORIZON NATIONAL

13 CORP 10/13/2008 -0.05647 0.087522 0.186467

14 HUNTINGTON BANCSHARES 10/13/2008 -0.24887 0.156396 0.2699072

15 MARSHALL & ILSLEY CORP 10/13/2008 -0.090097 -0.05924 0.1196023

16 BANK OF AMERICA CORP 10/13/2008 -0.090504 0.003405 0.0924865

17 NORTHERN TRUST CORP 10/13/2008 0.0550456 -0.04865 0.079091

18 WELLS FARGO & CO 10/13/2008 -0.087025 -0.0289 0.0289021

PNC FINANCIAL SVCS GROUP

19 INC 10/13/2008 -0.006131 -0.22413 -0.074192

20 KEYCORP 10/13/2008 -0.039061 0.438847 0.5245525

21 STATE STREET CORP 10/13/2008 -0.011128 0.102475 0.1748211

22 SUNTRUST BANKS INC 10/13/2008 -0.138331 0.021474 0.0896811

23 WHITNEY HOLDING CORP 10/13/2008 -0.082567 -0.0574 0.043688

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Table 2. Regressions of CAR(-1,1) over Your Explanatory Variable

Coefficients t Statistics p Value

X VAR 1- Debt -.054271633 -.29863 .766566
Ratio
X VAR 2- Current .167126622 1.755754 .085788
Ratio
Intercept -.049448845
Adjusted R Square .027851039
N 49*
*CIT GROUP INC had incomplete information for its debt and current ratio and was therefore
omitted from the regression calculation

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