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HomeBanks Cooking a Second Course
Posted by Larry Doyle on June 4th, 2009 2:15 PM |
I am of the strong opinion that the relaxation of the FASB’s mark-to-market accounting standard is nothing short of an allowance for banks to “cook their books.” Well, it now appears that the banking chefs are whipping up a “second course.” The Wall Street Journal opens the door to the kitchen and reports, Banks Try to Stiff-Arm New Rule:
The financial-services industry is taking steps to delay an accounting rule that would force banks and others to bring some of their off-balance-sheet vehicles back onto their books next year, which could force some to raise additional capital.
A group that includes the Chamber of Commerce, the Mortgage Bankers Association, and the American Council of Life Insurers and others sent a letter on June 1 to Treasury Secretary Timothy Geithner, regarding the off-balance-sheet accounting-rule change, saying it should be adopted “cautiously and seek to minimize any chilling effect on our frozen credit markets.”
The letter was signed by 16 industry associations, many of which were part of a group known as the “Fair Value Coalition,” which was formed earlier this year with the goal of changing mark-to-market accounting rules. Mark-to-market accounting rules set guidelines for banks on when they are required to reflect market prices in the values they assign to hard-to-value securities and other assets.
Please recall that the massive leverage within the banking industry was largely housed within these off-balance sheet vehicles (SPVs, special purpose vehicles). The lack of transparency of these vehicles allowed banks to leverage their assets to greater than a 30:1 ratio. Regulators and rating agencies were totally remiss in fully exposing these vehicles and protecting investors. We have all paid for it.
The banks and Washington jointly conspired to pressure FASB to relax the mark-to-market accounting rule so the industry could alleviate the pressure of raising capital. I detailed that “course” just yesterday in writing Wall Street-Washington: “Pay to Play.”
We hardly had time to digest that “inedible” piece of meat and now understand our chefs are working to continue the lack of transparency within the industry. Regrettably, our Congressional watchdogs have been more than happy to accept perfunctory campaign contributions and lobbying dollars to facilitate this charade.
The WSJ takes a whiff of what is simmering and reports:
Some accounting experts say they aren’t surprised by the banking industry’s latest effort. “Here we go again. They will get out their checkbooks and go to the Hill,” says Lynn Turner, the Securities and Exchange Commission’s former chief accountant.
At what point do the patrons get some representation, drop these meals in the garbage, fire the chefs and staff, and hang out the “Condemned: Department of Health” sign?
LD
Banks: What Lies Ahead?
Posted by Larry Doyle on May 12th, 2009 7:34 AM |
If the major money-center banks are neither going to be nationalized nor fail, at least for the time being, then what does the future hold for these institutions? Uncle Sam has provided massive backstops via a number of programs, but a socialized banking system is not consistent with free market capitalism.
Fed chair Bernanke addressed the three major risks — operational, liquidity, reputational — for these institutions moving forward. Let’s address each individually.
1. Operational: While Uncle Sam (Fed and Treasury) has done a lot (some would say too much) for the large banks, he can’t literally run the banks. With no “shadow banking system” (please read “All The King’s Horses and All the King’s Men“), reluctant consumers, and defensively postured corporations, how do the banks manage their increasing level of loan defaults? On top of that, how do they actually grow their business when, by necessity, they are forced to cut their own expenses?
Banks can only “massage” their numbers via the relaxation of the mark-to-market accounting rule for a brief period. While a few of these institutions have large capital market businesses which have recently provided solid returns, those are high risk operations and earnings from that division are volatile. Underwriting fees for new issues of debt and equity were at record lows in the 1st quarter 2009.
Will banks be able to manage their traditional “bricks and mortar” operations (underwriting and holding quality loans) and generate long term growth in this sector? Good question and a real risk.
2. Liquidity: Without Uncle Sam backstopping the short term markets, will banks be able to source sufficient daily liquidity to manage and grow their business units? Bernanke is setting the stage for the time when the Fed needs to drain liquidity from the system so the inflation monkey – if not the hyperinflation monster – does not spin out of control. (please read “Putting The Genie Back Inside the Bottle“)
In layman’s terms, how does the Fed wean the banking system from the drugs that have kept it alive? Will some of the banks be zombie-like, if not outright brain dead? Would we have been better off letting certain institutions fail? If banks can’t source their own liquidity to “live a healthy life,” perhaps Uncle Sam has been more of a benevolent old man when a strict disciplinarian was more in order.
3. Reputational: If banks are challenged to grow and source liquidity without Uncle Sam’s assistance, will they start to cut corners, and once again push the envelope out of desperation for earnings? Please read, “The Greatest Risk,” a recap of the risks undertaken by Bear Stearns, which played a major role in that 100 year old firm’s downfall. Desperate people do desperate things and similarly desperate institutions will also do desperate things. We have already seen ample evidence of extreme measures taken by banks to jeopardize the reputation of the institution in pursuit of the almighty dollar. In this realm, who will be watching? What type of regulations will be implemented and enforced?
On all these fronts, the risks faced by the banks are significant. The risks faced by consumers are also significant. If there is one thing we have learned throughout this ordeal, it is the fact that we can not blindly trust what executives of banks, as well as other institutions, lead us to believe. We must probe, look beyond the numbers, and seriously question the integrity of the data. If we don’t, then we increase our own risks as we navigate our own personal economic landscapes.
LD
Markets Catch the Flu, Down 2% Overnight
Posted by Larry Doyle on April 28th, 2009 6:48 AM |
The global equity markets are down approximately 2% overnight for a variety of reasons, including:
1. Citi and BofA will likely be forced by regulators to raise more capital. Company shares are down 7-8% on this news. It also seems likely that regulators will force changes on the boards of these companies. Do not be surprised to see management changes as well. Has Ken Lewis become a government liability based upon his assertion of being pressured by Hank Paulson and Ben Bernanke to complete the BofA-Merrill Lynch merger?
Is this story of increased capital needs really news? I don’t think so.
On the regional bank front . . . Suntrust, Regions Financial, and KeyCorp are speculated to need increased capital.
When it is widely accepted that our domestic banking system still has $750 billion to $1 trillion in embedded losses, it can’t be the case that all the banks are fine. In my opinion, Geithner did investors a disservice last week in promoting the overall health of the banking industry.
Bloomberg provides more insight: Citigroup, Bank of America Decline on Capital Report.
2. Markets are also down based upon some weak earnings news, increased loan loss provisions at NAB (National Australia Bank), and price declines in commodities due to the impact of the swine flu outbreak.
In my opinion, the markets and investors have gotten somewhat complacent given the rally in equities since early March. I still view risks as very high. It is growing increasingly likely that we will have a meaningful government presence as equity holders in some critical industries for a protracted period. This development will not only occur in the United States but in many regions globally. The impact of this government presence will effect not only specific companies but, in turn, industries as a whole. (more…)
The Red Sea
Posted by Larry Doyle on April 24th, 2009 11:26 AM |
While there is tremendous focus on the Bank Stress Tests, there remains limited focus overall on the centerpieces of our domestic housing finance industry. I am talking about Freddie Mac, Fannie Mae, and the Federal Home Loan Banks. Some have categorized these institutions as “black holes.” I believe a more appropriate designation would be The Red Sea as these institutions are awash in losses and continue to bleed money.
We may never know the circumstances surrounding the death of acting Freddie Mac CFO, David Kellerman, but there is a lot of focus by government officials on these institutions. There has been much less focus by private analysts. To that end, I am most grateful to Bloomberg’s David Reilly for reporting on Fannie Mae Creates Housing Mirage With Bum Loans.
Effectively, Fannie Mae is giving funds away to very high credit risk individuals who would have otherwise most likely already defaulted on their mortgages. As Reilly reports:
Give money away. That was a solution to the housing crisis mortgage giant Fannie Mae hit on last year.
Faced with growing numbers of homeowners unable to make mortgage payments, Fannie decided to fund loans to borrowers that were instant losers.
The point was to buy time. Even though those loans resulted in a $453 million loss, they helped keep troubled homeowners from defaulting. That meant Fannie for now didn’t have to make good on loan guarantees that may have cost it as much as $2.4 billion.
Make no mistake, this Fannie Mae program was also being utilized by Freddie Mac. Reports have come out that Freddie Mac’s Kellerman was pressured by Freddie’s accountants to improperly report their financials. In a similar vein, Fannie is playing another version of the “shell game” in order to buy time and forestall losses. (more…)
Ken Lewis: Great American or Mere Corporate Pawn?
Posted by Larry Doyle on April 23rd, 2009 6:58 AM |
When Ken Lewis, CEO of Bank of America, purchased Merrill Lynch last Fall did he put country first but his shareholders’ interests second? The WSJ Reports Lewis Testifies U.S. Urged Silence on Deal.
The BofA purchase of Merrill did not feel “right” to me from the outset. Why? Recall that at the time of this deal, Lehman had just failed and other investment banks’ stocks (Merrill, Morgan Stanley, Goldman Sachs) were plummeting. Given that dynamic, why did BofA pay a fairly sizable premium for a firm in distress? Merrill’s stock was trading somewhere in the mid-teens but BofA paid the equivalent of $29 a share. It is said that Lewis paid such a premium in order to retain the renowned Merrill retail brokerage staff, but it struck me as more directed by Uncle Sam than anything else.
In early February I questioned What Really Happened With Merrill and B of A. I summarized then that normal business decisions and strategy do not occur when operating in uncharted waters. Well, in the last two and a half months our economy and financial industry have moved into even deeper waters.
In looking back at the height of the waves swamping the Merrill ship, the WSJ report reminds us: (more…)
Will Bank Stress Tests Be “Put on a Curve?”
Posted by Larry Doyle on April 22nd, 2009 9:10 AM |
Will the soon to be released Bank Stress Tests provide real clarity on the health of our banking industry or will the tests be “curved?” Meredith Whitney, highly regarded bank analyst, has indicated that the tests will provide plenty of wiggle room for the banks. Just yesterday Secretary Geithner “goosed” the market by indicating the majority of banks have sufficient capital. To what degree can we trust what Turbo-Tim is telling us?
Mohamed El-Erian, CEO of PIMCO (Pacific Investment Management Company) provides a blueprint for an honest review of the Stress Tests. Mr. El-Erian highlights the following in a Financial Times article:
First, transparency is key. Whether the government likes it or not, hundreds of analysts around the world will reverse engineer the stress tests. The government would be well advised to assist the process through clarity. Obfuscation would result in damaging market noise and further derail the real economy. At the minimum, policymakers need to provide credible details on the methodology, the underlying assumptions and scenario analyses.
To this point, neither the banks nor the government have provided real transparency. What are we to expect when Congress pressures the FASB to relax mark-to-market accounting thus forever clouding real transparency?
Second, the results of the stress tests must be part of a comprehensive, forward-looking package to resolve problems at banks. Out-performing banks should be provided with exit mechanisms from the exceptional government support that they have been receiving and, presumably, no longer need. At the other end, there must be clarity as to how capital-deficient banks that no longer have access to private capital will be handled. (more…)
“IMF Puts Financial Losses at $4.1 Trillion”
Posted by Larry Doyle on April 21st, 2009 9:57 AM |
The FT provides in depth analysis as IMF Puts Financial Losses at $4.1 Trillion. The IMF had forecast these losses earlier this month. The actual report is no better than the initial warning. The simple fact is the world is awash in excessive debt. This debt can be restructured, defaulted, and/or devalued. Each of these respective approaches will take time and money. While the IMF has a checkered reputation, I had the good fortune of working at JP Morgan with John Lipsky, current First Deputy Managing Director at the IMF, and hold him in very high regard. Lipsky is often the public face to the markets for the IMF given his reputation.
The FT report is fairly comprehensive, although I still question the relative amount of losses outside of the U.S., Europe, and Japan. Is there anyplace in the world to truly hide in the face of these losses? Can China single-handedly be the economic engine for the global economy? The FT does a great service in shedding light on this report. (more…)
Repaying TARP Funds: Playing Ball With Uncle Sam
Posted by Larry Doyle on April 20th, 2009 10:27 AM |
Last evening on NQR’s Sense on Cents with LD (note: you can listen to audio recording of the show from the BlogTalkRadio player in the right sidebar), I proposed that the Obama administration would not release individual results of the Bank Stress Tests. I further added that I thought the administration may encourage stronger banking institutions to channel funds to weaker institutions. In so doing, these stronger banks – such as JP Morgan and Goldman Sachs – may actually take equity stakes in the weaker banks. Will JP Morgan and Goldman bear the entire risk of those equity stakes? Doubtful. Uncle Sam will likely negotiate terms along the lines of other bank bailouts in which a strong bank provides capital but the government bears the brunt of the losses.
As I write this, Bloomberg reports Bank of America is speculated to need another $10-20 billion in equity capital. BofA’s earnings were reported this morning at .44 earnings per share versus an expectation of approximately .03 earnings per share. Analysts are panning the earnings due to the propsects for ongoing increases in credit losses within BofA’s loan portfolio. BofA’s stock is down approximately 8% in early trading.
If BofA does need another $10-$20 billion in equity capital, where might it come from? In my opinion, in a non-public transferral of capital, those funds may come from JP Morgan and/or Goldman Sachs, and would actually be recycled TARP funds. Effectively, JPM and GS will merely be a conduit for increased government funds injected into BofA and Citigroup, as well. Remember JPM has $25 billion in TARP funds, Goldman has $10 billion. If BofA took $15 billion of these funds then Citi could receive $20 billion. What would JPM and GS receive in return? I would think these negotiations would be private and not released, although given that the capital provided is public money all information should be released. (more…)
Tags: Bank of America's earnings, Bank Stress Tests, FDIC-backed debt, Goldman Sachs repaying TARP, JP Morgan repaying TARP, Larry Summers comments on repaying TARP, TARP fund repayment
Posted in Bank Stress Test, Banking Institutions, TALF, TARP, Wall Street | 2 Comments »