Rally into Banks' Preferred to Common Conversion?

It is unclear to me why the bank stocks have been going up so much lately. The stress tests are not that stressful. They apparently say that at least half of the banks on the list of 19 will be told to raise more capital. Let's see how they raise this newly required capital. Several months from now, these same banks seem likely to be asked to raise capital again based on yet a newer stress test. Yet the stocks are rallying. Of the companies that received at least $25B, all have rallied substantially since last Friday.

• BAC/Merrill Lynch 45%
• WFC 34.9%
• C 30.0%
• JPM 15.0%

To me this seems very curious. Further expected dilution, due to the new capital three of the four will be required to raise, would seem like it should cause the prices of these stocks to fall.

Yet the opposite has happened. One could think that this might be due to relief that the banks are sound. One could think that the ADP employment numbers released yesterday caused a huge rally. Undoubtedly this did play a factor in the rally. However, these stocks have still rallied disproportionately with the general markets. Somehow it seems likely to be more than this.

When you notice that the percentage rise in each of the above stocks since last Friday correlates with the amount of capital each will be asked to raise, an idea occurs. The rumor mill has it that the banks above will be asked to raise:

• BAC/Merrill Lynch: $34B up 45.9%
• WFC: $15B up 34.9%
• C: $5B up 30.0%
• JPM: $0 up 15.0%

If you consider that a good portion of this new capital may be acquired by converting the governments' preferred shares into common shares, you are faced with the fact that there will be less dilution if these stocks are more highly valued when this conversion takes place. Are these banks buying their own stock to run the price up before such a conversion? Are mutual funds and hedge funds somehow acting in unison (or collusion)? Is the government somehow helping them out by pushing the prices up?

I really don't know the answer to who is buying. What seems likely to me is that these stocks will fall dramatically when the conversion is over. JPM, although probably not converting, will likely fall in sympathy with its sector.

The fact that the equities markets are very over bought at this point will probably play a factor in this fall. The banks will go down in sympathy with the overall markets. Perhaps this will all be hidden.

Still one must seriously consider that this whole situation is contrived. One must consider that some market manipulation is being done. One might also consider that this is being done with the acceptance or approval of the government. The numbers seem to correlate too well for this all to be a coincidence.

Be very careful with these stocks in the near future. If you have made good recent profits, you might consider taking some profits now. I really don't believe in coincidences that are this perfect. Good luck.

Comments

[Milkweed]

Conversion price for government preferreds was already set at the average of the banks stock price for some 20 days in January. No conspiracy just relief that it's over I guess and while the dilution will be serious it's already more than accounted for in the stocks prices.

2009 May 07 06:59 AM

[tedfoo]

While I wish this to be true, I'm sure it's not. I wish this was all a conspiracy, but it's not. Mr market just is, and that's that.

The irrational exhuberance is resulting from the belief they will not be nationalized and will need no more capital after this. They're overbought, now, yes....but the market is being irrational. I've lost all hope that this will ever turn around and against my better judgement allowed myself to be trapped in just 3 short days into the worthless FAZ trading vehicle. I've wiped out all my rally gains and am looking at losing more here in the next few days. I would have cut my losses and run if I weren't so convinced I was on the right side of the fundamentals. Fundamentals mean nothing, a sure sign this is a bull market now. Will it turn soon to save my skin? I don't know. Nobody does.

2009 May 07 07:46 AM

[Dr. Roberts]

In the case of Wells Fargo, why would management dilute shareholders by converting preferred shares on a TARP injection that was not wanted in the first place? If WFC is not allowed to earn themselves out of the Government's capital requirement Stumpf asks Uncle Warren for a loan as they play bridge online. The Bears have been on the wrong side of the greatest money making opportunity of a lifetime in the financials.

2009 May 07 09:49 AM

[Redsnake]

I agree with your analysis. The truth and market fundamentals will eventually reign causing huge declines in most financials of at least 30-35% starting Friday. Let's make a deal, you buy millions of stock up to $15, you can participate in raising capital @ $10 in short term. Average them out and your up more than a SBUX Vende! Isn't that how Wall Street works. If you drop your wallet, don't bend over to pick it up....

2009 May 07 10:25 AM

[David White]

Milkweed: Thank you for your information. I vaguely remember reading something along those lines. However, things like that are never set in stone. Plus companies like BAC have said they want to repay the TARP money. To do this they would likely have to raise a lot of money by selling common shares in the market. It is still to their benefit if their shares go up. They could drive them up. Set an offer price based on the current price. Then they could allow the price to go down as the people who bought at that price diluted the shareholders' value. This is still manipulation if BAC or others are doing it deliberately for this reason.

2009 May 07 03:37 PM

[David White]

It is also not beyond a company like Goldman Sachs to drive up the price of BAC and others knowing that they will soon announce stock offerings. Then GS could short the stock at the top. It might also sell as many short term call options as it could before it started to sell the stock it had just bought. If MS, JPM, C, and perhaps BAC itself were doing this, it might have a large cummulative effect on the stock price. GS has often been accused of market manipulation. You might also consider that GS et al might have sold a lot of May puts on BAC, etc. If they push the price up, they make these worthless. They can then take advantage at the top as described above with good certainty in the result (as they are one of the big sellers). Hedge funds could collude to do the same thing. They might also do so independently, knowing already the likely behavior of other major hedge funds.

I don't actually know if any of this is happening. However, it would not surprise me a bit if it were happening.

2009 May 07 03:51 PM