December 16, 2009 – The Troubled Asset Relief Program (TARP) was initiated to save the United States, as well as the world, from a complete financial meltdown that would have certainly lead to a depression, which would have been comparable to the Great Depression of the 1930s.

After all this time, we know the story of how we got here and we are still struggling to get out of it. However, a lot of progress has been made since Q4 2008. Although, banking institutions are still going out of business (133 so far this year) and the FDIC has slipped into the red for the second time in the agency’s history, the economy has stabilized with the help of TARP. The financial markets have more or less normalized and the financial services industry has retuned to producing strong profits. The actions taken by former US Treasury Secretary Hank Paulson in October 2008 were necessary in bringing the market back into a more stable trading period. The Treasury forced “too big to fail” institutions to accept TARP money in order to prevent another market shock, which would have sent the economy into a steeper tailspin. This collective action, concealed the worst banks from the best banks and prevented another Lehman Brothers collapse from happening.

Since then, the “too big to fail” institutions have been racing to pay back their share of TARP funds. Goldman Sachs was the first of the top eight initial institutions and the others have since followed culminating with the December 14th announcement that Citi and Wells Fargo are repaying $45 billion in TARP funds. This is good news for the US government and for the US taxpayer because the government can get out of the business of owning banks. However, this is not necessarily good news for the investor looking to put capital to work in these institutions.

Although these financial institutions are comparable in size and scope they certainly are not equal. It is no surprise that the banks that repaid their TARP package the quickest are the highest earning and today’s most fiscally sound financial institutions. However, even when the best-equipped banks announced that they were re-paying their TARP funds their stocks did not increase dramatically.Â

As an investor, it is important to not lose sight of the fundamentals of financial stocks. Re-paying the TARP shouldn’t be the decisive factor that brings the investor back into the market. The repayment of TARP really only enables the bank to lift the pay restrictions connected to management. It does not make the financial institution free of government oversight, since the government regulates the industry. In fact, government regulations are expected to tighten with the passage of the financial regulatory reform bill, which was passed by the House of Representatives last week. The fundamentals that investors should be looking at are the banks’ business models, capital ratios and book values. These fundamentals have improved in some of the banks since they re-payed TARP because of the earnings that they have generated. However, the immediate impact of raising capital to replace the government’s investment is a dilutive to current shareholders. The capital raise also causes a decline in the banks capital ratios and book values.