Two thousand and eight was a cataclysmic year in American banking. The mighty fell (Bear Stearns, Lehman Brothers, Wachovia, Washington Mutual—the list never seems to end), the largest were humbled (Bank of America (NYSE:BAC) and Citigroup (NYSE:C), most notably), while the community banking system was staggered.
No corner of the industry seemed safe from the deluge: bank stocks collapsed, hedge funds failed by the score, and even the mighty Goldman Sachs (NYSE:GS) and Morgan Stanley (NYSE:MS) had to run for the cover of a bank charter. Then there were the frauds—most notably the scam Bernard Madoff is said to have perpetrated. Even triple-A-rated General Electric (NYSE:GE) needed government guarantees to finance its public debt.
Given this backdrop, I make my predictions for 2009 with great trepidation:
1. The economy will bottom at last. Our best guess: the contraction will end around the third quarter. But stocks—including bank stocks—will discount the end of the recession ahead of time, as they typically do, and bottom earlier, perhaps in May. Credit quality (a lagging indicator, remember) will continue to deteriorate thru 2009.
2. Citigroup will cease to exist in its current form. Already the dismantling has begun. Smith Barney is in the process of being sold, while the process of setting up Citi’s version of a “bad bank” is underway. These are the first steps in the breakup of the company, but they won’t likely be the last. By the end of the year, Citigroup as we now know it may be unrecognizable.
3. The humiliation of Bank of America will continue. In 2009, BofA’s acquisitions of Countrywide and Merrill Lynch will be seen to be the disasters many of us suspected they’d turn out to be when they were announced. More federal support for BofA will be needed, and on a massive scale. Ken Lewis, the architect of the deals, will be replaced.
4. Deposits will again be king. Lesson No. 1 of the credit crunch is that dependence on wholesale funding can be toxic. Institutions that can fund themselves with long-term, low-cost deposits will prove to have a durable, meaningful competitive advantage. Because of this, well-run community banks that find ways to differentiate themselves will prosper.
5. Securitization, and companies whose business models depend on it, will not return in 2009. The financial markets in 2009 will prize simplicity and transparency above all else. The asset-backed securities markets lend themselves to neither. Until securitizers find a way to make their bonds simple to understand and obviously creditworthy—without having to depend on the imprimatur of the rating agencies, by the way--they won’t find many buyers for their issues. They’ll have to reinvent the funding side of their business, or die.
Last year, the financial industry saw wave after wave of destruction--of instruments, of companies, and of reputations. The year that just began will likely bring more upheaval, which in turn will allow the much-needed healing process to finally begin.