Monday was not a technical correction - we saw the first major move down in financials due to the coming transparency squeeze. This squeeze is being driven by five factors - bank earnings' announcements, new mark to market accounting rules, the coming stress tests, future toxic asset auctions and the recent raise of new capital by Goldman Sachs (GS).
Earnings: The market not only does not like the fake earnings from Citi (C), BOA (BAC) and Goldman - accounting plus one-offs equal profits at these companies - but is really upset about the small reserves being set aside going forward. Simply put, these banks are not making any effort to be more transparent and by doing so investors are assuming the worst. The market voted - it thinks there is a large amount of bad stuff on their balance sheets - no kidding - in part due to a blog post that may or may not be real. The poster said they had seen the stress test results and 16 of the 19 banks were insolvent and there was an unspeakable amount of derivatives and other potential losses facing the banks, losses that would put the FDIC underwater in no time.
Assuming the blog post is false, the current lack of transparency and the small reserves being set aside are ridiculous enough to drive bank stocks lower. They are almost funny. BOA set aside just two and a half percent of assets - in a deep, deep recession with derivatives exposure as well?
Mark to Market Rules: They have changed but have actually hurt the banks more than they have helped. Yes, they let the fictional earnings statements seem brighter -- good for a headline and a trade - but they make investors, and the public, ask the question, "Oh, those assets are illiquid, eh? Sure they are not impaired?" And once all the banks declare what is impaired versus what is illiquid, investors can compare and contrast.
Stress Tests: Unless the government fiddles them, some banks must come up losers - and again, since the tests are being run with the same criteria, more data for investors to compare and contrast regardless of their conclusions. Stress tests of 19 banks' balance sheets are about complete with results to be released on May 4. in total. But over time individual results will be made public by the feds or the companies themselves as they are material to shareholders.
Toxic Assets Sales: Assuming they take place, these will a) produce clear marks for illiquid assets and b) provide a market for illiquid assets. You see where I am going with this - the mark to market accounting rules are mooted once an asset in a class is sold. No more illiquid assets - a bank can sell them at auction.
Goldman's New Capital: Goldman raised capital and the fall in the stock price was within a hair of the amount of dilution. And Goldman is valued as the best bank and the best brand in the industry. This means new capital coming to other banks will have at least that effect - and probably more given the perceived value of the Goldman franchise.
The transparency squeeze now makes it a transparency race. The government wants private capital to remake the banks - and they have created a transparency squeeze to get the ball rolling. Your point, Shulman?
The IMF says we are $1.3 trillion down a $4 trillion write-off. I believe them - and let's say it is only $3 trillion, that is $1.7 trillion more to write off or more than double the market cap of the industry. Capital will have to be raised and with that comes massive dilution of shareholders. Maybe even bondholders will have to take a haircut.
With the stress tests half political and half real, it is hard to say which banks will bounce when - we do know Citi, Wells (WFC), JPMorgan (JPM) and BOA have a lot of stuff on their balance sheets that needs to be written off. And many other banks as well. So, a short right now of an individual name may be difficult, or just volatile, but a short of the entire industry through puts on industry ETFs or the purchase of inverse ETFs on the segment is a great trade.
