Banking Sector: Worst Is Yet to Come

For those that believe mark to market rules are useless (I know they make it hard to goose your share price in a deflationary market, see "Charting the Truth"), I bring you the collapse of a bank last week that wasn't even on the FDIC's troubled bank list. To add misty eyes to misery, the mis-marking of the banks assets will cost the FDIC nearly a billion dollars. That's a lot for a bank that wasn't even on the watch list. If the banks were forced to carry assets at market value, REAL market value, these little surprises will not be allowed to sneak up. Investors, regulators, bloggers, etc. will be able to see them coming a mile away - or at least they should. Alas, I am able to see them anyway. Is it because I am hyper-intelligent, possessive of meta-human powers, or employ an army of elfin dwarves to hide in the boardroom duct vents to eavesdrop on the board meetings? No, it's none of those. Its because I PAY ATTENTION, and don't have any conflicts of interests and axes to grind that color my observations and analysis.

Subscribers should keep this in mind when reading about this big bank that has written a bunch (more than a quarter of its tangible equity) in naked, unhedged credit default and total return swaps - see "And the next AIG is....". Knowing what they have acquired as of late, and what their subsidiaries have been trying to unload, there is no telling what the hell the quality of the underlying is. One thing is for sure, it is probably not very pristine!

Before we move on to the Bloomberg article that sparked this blog post, let's excerpt some key snippets from the latest FDIC memorandum to its Board of Directors. It is written in the coded language of regulator-ese, but I will translate for you:

1. The FDIC not impose additional special assessments in 2009.

Because we have hit them pretty hard already and they are already broker than we are!

2. The FDIC maintain assessment rates at their current levels through the end of 2010 and immediately adopt a uniform 3 basis point increase in assessment rates effective January 1, 2011.

In October 2008, the Board adopted a Restoration Plan to return the Deposit Insurance Fund (DIF or the Fund) to its statutorily mandated minimum reserve ratio of 1.15 percent within five years. In February 2009, given the extraordinary circumstances facing the banking industry, the Board amended its Restoration Plan to allow the Fund seven years to return to 1.15% percent.

We're in trouble and need more time. We will crush and already insolvent banking system (despite the proclamations to the contrary by the government and bank management) if we attempt to return the fund to a prudent level in less than 7 years. Its getting worse quickly even as the bank stocks skyrocket over 100% - just a few months ago we thought we could do it in 5 years.

Pursuant to these requirements, staff estimates that both the Fund balance and the reserve ratio as of September 30, 2009, will be negative.

This is technically and effectively insolvent!

This reflects, in part, an increase in provisioning for anticipated failures. In contrast, cash and marketable securities available to resolve failed institutions remain positive.

Staff has also projected the Fund balance and reserve ratio for each quarter over the next several years using the most recently available information on expected failures and loss rates and statistical analyses of trends in CAMELS downgrades, failure rates and loss rates. Staff projects that, over the period 2009 through 2013, the Fund could incur approximately $100 billion in failure costs. Staff projects that most of these costs will occur in 2009 and 2010. Approximately $25 billion of the $100 billion amount has already been incurred in failure costs so far in 2009. Staff projects that most of these costs will occur in 2009 and 2010.

So, only 25% into this mess by the FDIC's own calculations, and they are already negative and insolvent. They believe the worst is yet to come (versus Bernanke, Paulson and Geithner saying the worst is behind us), and that will come rather quickly. To make things worse, as you read the article excerpted below, the FDIC doesn't even seem to have a firm grasp on the risks, as they were blindsided by a nearly billion dollar failure that wasn't even on their problem bank list, and this was last Friday! You all know who has been the most bearish on the financial sector through all of this.

If the Board imposes no further special assessments and leaves existing risk-based assessment rates in place, staff projects that the Fund balance would become significantly negative in 2010 and may remain negative until 2013. According to these projections the reserve ratio would not return to the statutorily mandated minimum reserve ratio of 1.15 percent until late 2018.

'Nuff said!

The projections in the preceding paragraphs address the effect of projected failures on the Fund balance (its net worth, which is assets minus liabilities), not the cash balance of the Fund, which provides needed liquidity. Staff has also estimated the FDIC’s need for cash to pay for projected failures. At the beginning of this crisis, in June 2008, total assets held by the DIF were approximately $55 billion, and consisted almost entirely of cash and marketable securities (i.e., liquid assets). As the crisis has unfolded, the liquid assets of the DIF have been used to protect depositors of failed institutions and have been exchanged for less liquid claims against the assets in failed institutions. As of June 30, 2009, while total assets of the DIF had increased to almost $65 billion, cash and marketable securities had fallen to about $22 billion. The pace of resolutions continues to put downward pressure on cash balances. While the less liquid assets in the DIF have value that will eventually be converted to cash when sold, the FDIC’s immediate need is for more liquid assets to fund near-term failures.

Translation: We were forced to accept the trash assets from the fail banks that we could not convince the private sector to accept, as we mean (by using the term "less liquid claims") that these assets are effectively unmarketable, and must be traded at an extreme discount which renders them for all intents and purposes of the fund, effectively worthless in comparison.

Staff‘s projections take into account recent trends in resolution methodologies, such as the increasing use of loss sharing—especially for larger institutions—which reduce the FDIC’s immediate cash outlays, and the anticipated pace at which assets obtained from failed institutions can be sold. If the FDIC took no action under its existing authority to increase its liquidity, the FDIC’s projected liquidity needs would exceed its liquid assets on hand beginning in the first quarter of 2010. Through 2010 and 2011, liquidity needs could significantly exceed liquid assets on hand.

So, not only are we balance sheet insolvent, we will be cash flow insolvent within one quarter.

Imposing an additional special assessment as provided for in the May 2009 final rule would bring in approximately $5.5 billion in revenue to the Fund; imposing two (one at the end of September, one at the end of December) would bring in approximately $11 billion in revenue. Given staff’s projections, neither amount would prevent the Fund from becoming significantly negative or prevent the Fund’s liquidity needs from exceeding its liquid assets on hand in 2010. Even combining these special assessments with higher risk-based assessment rates would not solve these problems, unless rates were set very high or more was collected in special assessments. Furthermore, any additional special assessment or immediate, large increase in assessment rates would impose a burden on an industry that is struggling to maintain positive earnings overall.

Translation: Damn, even if we hit the banks at the continuing rate that we have already elevated the special charges to, we are still insolvent. No matter if hit them much harder, insolvent we will still be. The only way out of this is the same accounting game that the banks pulled. Hopefully, we will be able to fool somebody. See below.

An alternative—borrowing from the Treasury or the Federal Financing Bank (FFB)— would also increase the liquid assets available to fund future resolutions but would not increase the Fund balance as there would be a corresponding liability recorded.

Hey, wait a minute here. How is this any different from asking the banks to prepay their insurance premiums. In the prepay scenario, there will be an increase in cash (an asset) as well as an associated liability (unearned insurance premiums). Do the FDIC folk believe me to be as dense as some of those bank investors that really believe that banking industry is solvent. I posit this query to all interested pundits: how can the banking industry be solvent if the banking industry insurance fund is insolvent, and by their very own admission, very insolvent!?

Staff projects that failures will peak in 2009 and 2010 and that industry earnings will have recovered sufficiently by 2011 to absorb a 3 basis point increase in deposit insurance assessments. Adopting a uniform increase in assessment rates of 3 basis points now, effective January 1, 2011, should ensure that the prepaid assessments would address current liquidity needs without materially impairing the capital or earnings of insured institutions. Advance adoption of the rate increase also should help institutions plan for future assessment expenses.

So, whatcha sayin' is that we all know the banks are playing accounting games, we will just go along and play the games with them. Forget the economic earnings and cash, as long as we don't harm the accounting earnings, all will be fine. The problem with this is economic earnings actually mean cash and real capital. Accounting game or not, if you hit an insolvent bank hard for cash, it will give it to you and maybe even be able to gloss it over with pretty accounting tricks to make it look like its making some money, but in the end all you will be doing is using that money that you took from the bank to eventually take IT over. Garbage in, garbage out - old school programming! There is more, but I am sure you've got the message by now.

Now, on to the article of the day: Banks Have Us Flying Blind on Depth of Losses, by Jonathan Weil

Disclaimer: I am most likely short every single ticker or public bank mentioned in this article.

Comments

[Doom Blogge...:]

Reggie Middleton's doom and gloom life . . . the worst is yet to come. Get a life

Oct 02 08:34 AM

[Joe Shareho...:]

Worst is yet to come, Reggie's right. Yesterday marketwatch reported American's debt levels have been increasing - not decreasing. Today the gov reported non-farm payrolls increased from last month. All this during crazy Keynesian quantitative easing with interest rates at unhealthy low levels, encouraging Americans to take on MORE debt when naturally we should be deleveraging.

Add political unstability and a national debt level that FOMC has absolutely no intention that we'll ever repay it........scary.

Oct 02 09:04 AM

[truthteller:]

Very interesting read. I definitely disagree with your assessment. Little if any of the facts make any sense here. However, I appreciate your honesty about being short financials. You should however acknowledge that, according to disclosures and as reported on CNBC:

"Hedge fund manager John Paulson, who earned a fortune by betting against financial companies after foreseeing the credit crisis, bought a $2.7 billion stake in Bank of America and took stakes in other lenders during the second quarter, according to a regulatory filing."

Here's the link
www.cnbc.com/id/32392887

So why should I trust your judgement, when the guy who predicted this mess says otherwise? You should also talk about the inherent danger in purchasing options, both long and short. If you don't know what you're doing; you can and will lose a lot of money!

Oct 02 09:22 AM

[User 494643:]

I can understand the need to worry about financial markets. There are still a number of skeletons in the closet for a lot of financial institutions.

That being said, I don't think that the doom and gloom listed here is factually based. Keep in mind that banks are making profits, for the most part, and they are not being forced to add their toxic assets to their books until the assets go through a clearing house.

To make this point crystal clear, the Fed is requiring that banks purchase other banks' toxic assets in the clearing house. If Wells Fargo were to undercut Bank of America's toxic assets, then everyone Wells will have their toxic assets cut too because Wells can't buy their own toxic assets. This will allow the market to police itself, for once.

The national debt could be a big problem in the future, but if the Fed borrows the money from money-market funds to pay off the T-bills that have been issued as a result of the stimulus, then it is a true win-win situation for everybody. Money market funds will now be able to offer higher rates because they have more stable assets than the short commercial paper that they buy, and the Fed has a very stable source of money to borrow from. Over a longer period of time, the debt could be lessened significantly.

Pontificators who are doom and gloom should be reminded that we are nowhere close to the situation in the Depression. The Fed still has several stops they can pull out and keep the economy going without spiraling the debt out of control. Typically, economies sputter at times as they are climbing out of recessions. Because this one was so fast and deep, the economy is likely to sputter a little more before it starts up.

Look at the bright side: The economy, including earnings and consumer spending, are showing signs of increasing. Companies can't make more widgets until the ones they make now are bought, and they can't hire employees and expand until they need to make more widgets. With interest rates low now, this is a great time for business, because the cost of doing business will not be lower for probably 30-50 years.

Rampant negativity, based on situations and information that are on an extreme end of a spectrum are an opinion, and nothing more. I am glad that we have the freedom to express opinions, but enough already!

Oct 02 09:34 AM

[john s. gordon:]

thanks reggie for telling it like it is.
> jack

Oct 02 10:10 AM

[john connor:]

Things are not as bad as the Great Depression? No food lines? How about over 1 in 10 Americans on food stamps, the modern food lines. We all know that the gov't cooks the books like every company to make things look better than they are. With that said U6 gov't figures are that full unemployment before today's #s were almost 17% unemployment. U6 is the same methodology used during the Depression, but was changed during the Clinton years along with the Glass-Stegal Act suspension-causing the banks to become casino players in the derivatives markets. BIS stated that the total derivatives was 1.3 QUADRILLION, but with the new accounting/lying rules it is only 600 TRILLION! It blows me away that even among these intelligent people, that they do not understand how our monetary system works. You are right sir, that this is the lowest cost for doing business right now - it is because the debt balloon system cant allow for anymore expansion. Go To Google Video: Moneymasters or Money As Debt 1 & 2, then we can have an indepth conversation. Until then Reggie hits it right on the head and stop blaming the doctor when he tells you have a terminal disease as gloom and doom. Facts are facts.

Oct 02 11:11 AM

[Seth Chalnick:]

I think Reggie does a good job of intertwining facts and informed opinion.

I rarely do this, but I'm going to cut and paste here a comment I made last night on another thread... which shows another whole perspective of why the worst is yet to come in the financial sector.

You can find the SA article posted by Zacks if you search for ("Mortgage Delinquencies Rising").

My comment addresses a two-fold question posted by another reader... paraphrased as follows: "what is there to worry about my 5yr rate re-set if the rates are lower these days?" and "are option arms really that bad if the rates are lower too?"

First, in your scenario, yes you are better off if rates stay low compared to what will happen when they inevitably climb, but there still exists a major problem for many folks who are making less income than they did at time of purchase or who took on additional debt since then.

When the rate switches to adjustable... about 50% of these loans also switch from i/o to p&i... the other 50% keep the i/o option for five more years. The ones that go p&i now, reset the amortization to 25 yrs... the ones that go p&i in five years will switch at that time to 20yr amortization.

On a loan size of $800k if the rate is the same now as it was at time of purchase, this creates a payment increase (or payment shock as the case may be) of approximately $1,000/mo.

This may be easily absorbed by many households, but the marginal ones will look for other options. They will try to refi, and they will get rejected. Then they will attempt to short sale and only 15% will succeed. The rest will ultimately walk away, thereby creating a downward spiral in home values for the next marginal household.

The option arms are worse because they pay (or accumulate) anywhere from 8% to 11% on their balance just for the option to pay less than interest only. Most of the folks who have these loans have not even been paying the i/o... they have been paying less than i/o. When the negative amortization reaches 115% or 125% (varies by lender) of the original balance, the loan implodes by becoming due. A recipe for disaster.

Meantime, the prime pool is three times larger than subprime and, as this article points out, the average loan size is also larger. The subprime problem loans have not been absorbed into the market yet. They have merely been put on hold. The bankerment has (successfully?) used smoke and mirrors until now… since at least the prime consumers have been paying their monthly payments, but when they start defaulting (and they already have started)... the banks will start to falter. This will create another credit crunch and it will accelerate the problem.

The imminent prime crash is going to make the subprime crash look like a little footnote in history.

Oct 02 11:19 AM

[john connor:]

Because the 3rd quarter just ended and you don't know what his his dealings were in the past 3 months by the SEC filings (maybe he made a short-term bet?). Just reading the FDIC statements are telling you everything you need to know. If they have to ask for money early or borrow - they are out of money/insolvent. Unless their cash flow can cover their expenses, which they are saying they are not going to be able to, they are insolventbankrupt. Don't believe Reggie, me or anyone else. Do your own research, first with how the monetary system works. I have talked to bankers, brokers, financial advisors that have no idea how it works. I had one gent say to me that it was backed by gold, LOL! Prior to 1971 yes/partially on a ratio, but this was guy around 30! Go to Google Video; Moneymaster and/or Money As Debt 1 & 2 it is FREE and easy to do. Then you will understand all what is going on and where it is headed - by understanding the monetary and banking systems and how they were started. There are plenty of books and studies done, but watching Moneymasters and Money As Debt 1 & 2 are the easiest and best way to start.


On Oct 02 09:22 AM truthteller wrote:

> Very interesting read. I definitely disagree with your assessment.
> Little if any of the facts make any sense here. However, I appreciate
> your honesty about being short financials. You should however acknowledge
> that, according to disclosures and as reported on CNBC:
>
> "Hedge fund manager John Paulson, who earned a fortune by betting
> against financial companies after foreseeing the credit crisis, bought
> a $2.7 billion stake in Bank of America and took stakes in other
> lenders during the second quarter, according to a regulatory filing."
>
>
> Here's the link
> www.cnbc.com/id/32392887
>
> So why should I trust your judgement, when the guy who predicted
> this mess says otherwise? You should also talk about the inherent
> danger in purchasing options, both long and short. If you don't know
> what you're doing; you can and will lose a lot of money!

Oct 02 11:23 AM

[Curious Bys...:]

Anyone that can look at this and simply dismisses it as "doom and gloom" is in denial. The future is bleak no matter how you slice it. If the government doesn't get us the Fed's attempt to shrink the money supply will, and if that doesn't do it, the Option ARM and Alt-A implosion most certainly will.

Oct 02 11:38 AM

[semperpax:]

Who keeps electing the idiots in Washington? "The fault, dear Brutus, is not in our stars, But in ourselves..."

Oct 02 12:28 PM

[bobdark:]

I wouldn't base my opinion on health of the banks just based on Paulson's hedge fund. He got preferred shares at a big discount and for all we know he is shorting the common. This was probably mainly just a play on the depressed bank stocks in early Q2. He probably has an exit strategy for Q4.

This is explained in a little more detail in money.cnn.com/news/new...

From the article:

Analysts cautioned that revelations in public filings probably do not tell the whole story.

For example, the 30 hedge funds included in the analysis dropped 44.8 million shares of Citigroup Inc, more than in any other company last quarter, the filings show.

While fears of fresh losses taint Citigroup, analysts have noted that some selling came as investors put on strategies to capitalize on the bank's plans to swap preferred shares into common stock.

To do that, investors bought preferred shares and sold short the common stock.


On Oct 02 09:22 AM truthteller wrote:

> Very interesting read. I definitely disagree with your assessment.
> Little if any of the facts make any sense here. However, I appreciate
> your honesty about being short financials. You should however acknowledge
> that, according to disclosures and as reported on CNBC:
>
> "Hedge fund manager John Paulson, who earned a fortune by betting
> against financial companies after foreseeing the credit crisis, bought
> a $2.7 billion stake in Bank of America and took stakes in other
> lenders during the second quarter, according to a regulatory filing."
>
>
> Here's the link
> www.cnbc.com/id/32392887
>
> So why should I trust your judgement, when the guy who predicted
> this mess says otherwise? You should also talk about the inherent
> danger in purchasing options, both long and short. If you don't know
> what you're doing; you can and will lose a lot of money!

Oct 02 10:50 PM

[Oldbobg:]

Everyone is entitled to thier opinions; however, I don't see any real "business sense" in the article. This is a war against financial disaster. As much as I don't agree in the governmental strategy, we are living under it and as a business community, do all that we can to be optimistic about recovering. A certain amount of optimism will spurr others to be optimistic, which will then show results. That is what has happened in the past. Let's as a nation of business, do the best we can do under the circumstances.

Oct 03 09:15 AM

[LIVE FREE O...:]

You have to wonder how many "meltdowns" we need to have before the population "gets it". Granted the gov't & MSM are doing their job of misinformation, misdirection, etc.

"U6" employment numbers (17% unemployed, etc. and rising) in a comsumer driven economy indicate the economy will continue to deteriorate and depression is not far off (if it is not already with us). As a southern senator once said (paraphrase), "consumers just won't be consume'n".

Good job Reggie!

Oct 03 09:36 AM

[nukldrager:]

"They" are doing what they do ... whipsaw the economy and grab all the cash that gets stirred up in the process. That's the game we are in.

Oct 03 09:55 AM

[Northstar10000:]

Watch this little surprise. Experts predict a sell off in Oct. with a year end rally to follow. How about a shallow sell off in Oct to convince everyone they are right to be followed by an implosion in Nov-Dec.
think how many fools they can cook with that one. Can you see the fund guys needing to have year end performance being caught on the wrong side. the dumping will be really big when they panic.

Oct 03 10:04 AM

[tipalia:]

long term we are in big trouble, agree, but short term who wants to fight the fed ? the trend is your friend as they say , enjoy it while you can and be ready to get out. I have a stop loss on each financial I own and keep raising it when the opportunity presents itself . How long is it going to last nobody knows in the very short term. Is this investing or gambling ? a combination of both but I play this game with the financials only with the money I can afford to lose. I am not putting my future or my family s future in the hands of those CEOs that can t control their institutions .

Oct 03 10:08 AM

[0123:]

Government is in digging oneself out of ditch mode. In the process they have downed into the ditch partially. Question - who will bail the government? if projections do not come true. This mostly refers to status of banks and unemplyment #.
Big hedge fund guys are investing not their own money. When they pull out they do not forwarn anyone - remember early 2008. So what they do does not apply to common folks.


On Oct 02 09:04 AM Joe Shareholder wrote:

> Worst is yet to come, Reggie's right. Yesterday marketwatch reported
> American's debt levels have been increasing - not decreasing. Today
> the gov reported non-farm payrolls increased from last month. All
> this during crazy Keynesian quantitative easing with interest rates
> at unhealthy low levels, encouraging Americans to take on MORE debt
> when naturally we should be deleveraging.
>
> Add political unstability and a national debt level that FOMC has
> absolutely no intention that we'll ever repay it........scary.

Oct 03 10:57 AM

[TeresaE:]

While the visions of sugarplums dance in your optimistic business head, your customers are being bankrupted because the banks are calling their notes early, demanding recapitalization of the debts and/or are outright closing the note down and repo'ing the businesses. These are, well were, your customers.

Now, realize that the FDIC has already taken more money than usual from the banks this year and they are getting ready to take the next 3 years fees now. The additional fee structure has already hurt many banks and put even the more solvent into shaky territory.

What part of this leads us to believe that banks will be lending money to our customers anytime soon?

The banks are dead and instead of burying them, we are feeding them every dollar we have left.

Until people quit being blindly optimistic and open their eyes so that we can address and fix the problems, our march toward destruction accelerates.

We just logged the worst sales month in our 25 year history and the bank has demanded a larger payment to keep our building, and I wish we were the only ones, but we are not. Keep up that hope that your customers keep their credit and sales flowing.


On Oct 03 09:15 AM Oldbobg wrote:

> Everyone is entitled to thier opinions; however, I don't see any
> real "business sense" in the article. This is a war against financial
> disaster. As much as I don't agree in the governmental strategy,
> we are living under it and as a business community, do all that we
> can to be optimistic about recovering. A certain amount of optimism
> will spurr others to be optimistic, which will then show results.
> That is what has happened in the past. Let's as a nation of business,
> do the best we can do under the circumstances.

Oct 03 11:13 AM

[Joseph Tibman:]

Totally agree. Our three largest banks posted superficially reassuring numbers for the second quarter. Bank of America and Citi both relied on profits to prevent posting enormous losses due to credit/asset write-downs. JP Morgan was only able to show a profit on the back of volatile proprietary trading profits. With no numbers disclosed to date that indicate the growth of problem assets has slowed we have every reason to believe that banks are using the least conservative accounting possible to mask losses. This is far from the first time this has been done. Back in the 1980s the largest us banks had exposures to defaulting emerging markets countries that were double their capital. In true economic terms they were insolvent. We didn't see that in the bottom line results (many banks took losses, but not what they should have shown). Regulators allowed them to work their way out of the mess over a protracted period of time. Remember the 1980s anyone. Stagflation. Banks were not providing credit to worthy borrowers.

Joseph Tibman
Author, The Murder of Lehman Brothers, An Insider's Look at the Global Meltdown
lehmanbook.blogspot.com

Oct 03 11:16 AM

[TeresaE:]

Wear the "Doom & Gloom" label with pride Reggie, sadly I fear you will be vindicated sooner rather than later.

First article I have read of yours and nicely done sir.

Only addition I would make is the reality of Commercial loans coming due in the next couple years (in addition to the ARM resets yet to come). The banks are taking over American small business and shutting them down, that doesn't bode well for the average American, or our national debt. If CIT fails at the same time, the hole in our economy will become a never ending pit pretty quickly.

Very few want to admit that the only economy there is in America, is government spending and banks. Wonder how long that can last before we reach the end? They are taking everyone down to keep their own power and wealth and most of us sit back and actually believe it is for our own good.

Public and ivy league educations win again. All book theory and no reality nor common sense required. Glad to see another American who is self directed. Kudos.

Oct 03 11:19 AM

[Mayascribe:]

Over on dailyreckoning.com there's a story stating consumer bankruptcies have already topped 1,000,000 so far this year.

The spiraling doom...

Yet, the Jekyll part of the Hyde in me says that we need a lot more bankruptcies. We need a societal cleansing, both public and private. So that we can reset, get on with picking up the pieces and moving on ahead. All that DC is doing, is delaying the inevitable.

Oct 03 11:42 AM

[Leftfield:]

User 494643 states that banks are "making profits, for the most part, and they are not being forced to add their toxic assets to the books until they go through a clearing house." Looks to me that privileged suits are hanging together so they don't hang separately. Too bad ordinary Americans don't qualify for some gobbledygook to get off the hook.

Oct 03 11:44 AM

[jake gittes:]

yer head is technically insolvent.

Oct 03 12:04 PM

[1uncle:]

People who do not pay income taxes,as they are now writtren, should not be allowed to vote for more income . Banks should not have been allowed to become too big to fail. 'Campaign contributions?'

Oct 03 12:19 PM

[Dialectical...:]

I actually agree with you about the power and importance of optimism. But true leadership in a crisis requires laying bare all the challenges ahead with a truthful assessment of the situation and THEN inspires optimism that we are up to the challenge. I suspect the complaint of so many "doom and gloomers" on SA is that the actual circumstances in our economy are not being described bu the cheerleaders who want us to just "put on a happy face." One of the reasons Winston Churchill is regarded so fondly in Great Britain and the world is that he led that nation through the crisis of WWII not by downplaying the threat, but by laying bare what was really at stake and leading the charge to overcome the challenges before them. If we had national leadership that could actually admit how bad things are, I'f be more inclined to be optimistic. We can't climb out of this hole until we all understand how bad things are. And this understanding is inevitable, for we will either meet the challenge now or things will continue to degrade until there is no denying the direness of our straits. We can't "optimism" our demons away. We need to face them head on, admit what they really are (huge credit addiction, for example) and steel ourselves to fight for the survival of our economy. Most "doom and gloomers" know this and want to get on with the healing already.


On Oct 03 09:15 AM Oldbobg wrote:

> Everyone is entitled to thier opinions; however, I don't see any
> real "business sense" in the article. This is a war against financial
> disaster. As much as I don't agree in the governmental strategy,
> we are living under it and as a business community, do all that we
> can to be optimistic about recovering. A certain amount of optimism
> will spurr others to be optimistic, which will then show results.
> That is what has happened in the past. Let's as a nation of business,
> do the best we can do under the circumstances.

Oct 03 12:37 PM

[Crude Oil T...:]

Great post Reggie. It's sad that the feds are determined to bring down all of the banks that acted responsibly with their "to big to fail" friends. Pay your FDIC dues 3 years in advance? Unbelievable.

I added you to my follow list, keep up the great work!

Oct 03 12:53 PM

[Mike from NYC:]

Almost all former and current politicians are idiots and they appoint idiots like themselves to run our financial sector.

During the Depression the politicians were smarter and less corrupt and they chose people like themselves to run the financial sector.

Is it any wonder our financial sector has veered more and more out of control these past 15 years or so when Depression era regulations were repealed and called 'Market Reform'?

Let's face it ladies and gentlemen, with such incompetent and corrupt politicians, both Democrat and Republicans, our country is screwed no matter how you cut the cake.

Am I wrong?


On Oct 02 12:28 PM semperpax wrote:

> Who keeps electing the idiots in Washington? "The fault, dear Brutus,
> is not in our stars, But in ourselves..."

Oct 03 01:22 PM

[Mike from NYC:]

Isn't it over-optimism that got us into this mess? I read an opinion piece, and several others subsequently, that stated that optimism is what got us here. Optimism by individuals and businesses that caused them to over-reach.

I am optimistic but I am also realistic no matter how much pain I see. Right now realism is pessimism and cynicism.

On Oct 03 09:15 AM Oldbobg wrote:

A certain amount of optimism
> will spurr others to be optimistic, which will then show results.
> That is what has happened in the past. Let's as a nation of business,
> do the best we can do under the circumstances.

Oct 03 01:32 PM

[armadillo:]

Posting on a blog ain't gonna cut it. If you really believe we are going to ruin by or politicians don't wait. Shuffling numbers can only last so long. I don't want to hear it's too late already...what is that supposed to mean...roll over? Bail on the U.S. and move somewhere else? NO...We will need to start now to avoid... well use your imagination. I plan on starting at the grass roots level and get a sheriff elected that can be trusted, because that is what I can do. Move forward from there to the city council and then on from there. If you have clout start at a higher level. Failure in not an option. Or just roll over and wait.

Oct 03 02:25 PM

[LJR:]

It all makes me wonder what the economy will be like five years down the line.

Thanks for the fine article, Reggie!!!

Oct 03 02:41 PM

[dragonpaw:]

Good article, Reggie. All gov't stats are simply bu--sh-- to prop-up the existing power base. These numbers are just much more exaggerated as we sink deeper into this depression. Seth Chalnick's reflections add to the pessimism. Surprising to see someone in the inside seemingly dump more fuel on the fire. With a clientele able to float 800K notes with apparent financial naivete, I can well assume that all the projections about home market bottoming in 2010-11 are correct. Seth, are you considering a career change?
The bigger question is how long this smoke and mirrors national (fiasco) economy can continue.We are on the verge(12T dollars debt and climbing daily) of complete fiscal collapse. China balks at buying our soon-to-be useless fiat paper.Once they and a handful of others (Russia , India, Brazil i.e. those charming BRICs; don't forget Germany!) can convince the IMF (you know George Soros and friends) that a more stable international currency is needed, all is lost for the US dollar. The upheaval of such a shift will be cataclysmic and swift. Our 35% ownership of the world's enonomy will be lost.
Who will become the next world police; the UN?; Germany!!??
Our president will rest happily; we will all become "citizens of the world". The change will be complete! We, after all, have voted for the audacity ourselves (or at least51% ou us)
"We have seen the enemy, and he is us....." (Pogo)

Oct 03 02:49 PM

[joeevan:]

Thank you, Oldbobg for your wise response to the issue at hand. None of us has a crystal ball, but this is indeed a time when a strong sense of commitment and follow-through is necessary.
Best wishes...


On Oct 03 09:15 AM Oldbobg wrote:

> Everyone is entitled to thier opinions; however, I don't see any
> real "business sense" in the article. This is a war against financial
> disaster. As much as I don't agree in the governmental strategy,
> we are living under it and as a business community, do all that we
> can to be optimistic about recovering. A certain amount of optimism
> will spurr others to be optimistic, which will then show results.
> That is what has happened in the past. Let's as a nation of business,
> do the best we can do under the circumstances.

Oct 03 03:03 PM

[rennert:]

Remamber WAMU how they let that one fall right into some other greedy Bankers lap. There was money out their to bail them but the Elite Bullies would not let them. So all the share holders took a loss so the greedy stinking fat cats could gain. But they know if thay just call them Communist if they object to being treated like poor trash that will put them back into their place. Shame them tell them how Unamerican they are to object of being treated like crap. The market goes up no matter what the news, the banks are buying each others stocks. If they need more money if they have gambling losses they'll get it. We are treated like the Village Idiots in the Middle Ages and they live like the Roman Ceasar Nero.If people object just call them Sozialists or Communists that will shame them back into their place, were the Elite wants them to be

Oct 03 03:09 PM

[Swashbuckler:]

If "ifs" and "buts" were candy and nuts, everyday would be Christmas.


On Oct 03 09:15 AM Oldbobg wrote:

> Everyone is entitled to thier opinions; however, I don't see any
> real "business sense" in the article. This is a war against financial
> disaster. As much as I don't agree in the governmental strategy,
> we are living under it and as a business community, do all that we
> can to be optimistic about recovering. A certain amount of optimism
> will spurr others to be optimistic, which will then show results.
> That is what has happened in the past. Let's as a nation of business,
> do the best we can do under the circumstances.

Oct 03 03:21 PM

[joeevan:]

As a child, I recall hearing about Rosie the Riveter. In 1940, the U.S. prepared to enter the war with an unemployment rate of 14.6%. During the war, and under harsh conditions and unequal pay, women entered factories in order to make a contribution. They were realistic about the pain they saw in that time, but their optimism worked effectively against the odds.

On Oct 03 01:32 PM Mike from NYC wrote:

>
> Isn't it over-optimism that got us into this mess? I read an opinion
> piece, and several others subsequently, that stated that optimism
> is what got us here. Optimism by individuals and businesses that
> caused them to over-reach.
>
> I am optimistic but I am also realistic no matter how much pain I
> see. Right now realism is pessimism and cynicism.
>
> On Oct 03 09:15 AM Oldbobg wrote:
>
> A certain amount of optimism

Oct 03 03:26 PM

[Swashbuckler:]

Maya----300 million US citizens. One million belly-up this year. That's one out of every 300. Sounds plausible, given this mess.


On Oct 03 11:42 AM Mayascribe wrote:

> Over on dailyreckoning.com there's a story stating consumer
> bankruptcies have already topped 1,000,000 so far this year.
>
> The spiraling doom...
>
> Yet, the Jekyll part of the Hyde in me says that we need a lot more
> bankruptcies. We need a societal cleansing, both public and private.
> So that we can reset, get on with picking up the pieces and moving
> on ahead. All that DC is doing, is delaying the inevitable.

Oct 03 03:28 PM

[Reggie Midd...:]

@ Joseph, you said:
"Our three largest banks posted superficially reassuring numbers for the second quarter. Bank of America and Citi both relied on profits to prevent posting enormous losses due to credit/asset write-downs. JP Morgan was only able to show a profit on the back of volatile proprietary trading profits. With no numbers disclosed to date that indicate the growth of problem assets has slowed we have every reason to believe that banks are using the least conservative accounting possible to mask losses."

This is what JP Morgan wants everybody to think. JPM took a loss last quarter of over a billion (unadjusted for risk), and hid it by tweaking their inputs on their MSRs (level 3 assets) to produce a profit where a loss would have occurred. Read all about it in the public excerpt on my blog: boombustblog.com/Reggi...

There a BIG surprises in all of these banks. BIG ONES! For those that subscribe to my blog, see what else JPM is hiding: boombustblog.com/Reggi...

Check those hidden surprises in Wells Fargo that go way beyond those CDS that were written by Wachovia in an attempt to sell those bogus CMBS: boombustblog.com/index...

Then there is this bank that is currently doing exactly what caused AIG to need a $183 billion bailout - selling naked swaps - your busted - boombustblog.com/index...

As for the guy above who doesn't think there is any business sense in my article because I lack optimism, I don't use optimism or pessimism in my analysis. Use of either is a recipe for failure. The only "ism" that I allow into the thought process is realism. I don't give advice, but if a bird on my should were to ask, I would strongly suggest that he take that to heart.

Oct 03 04:04 PM

[secmaven:]

SKF here we come!

Oct 03 06:17 PM

[devassocx:]

Yes, I think you are wrong...Politicians have always been just
as corrupt as now. The difference is that in the past it was much
easier to hide the corruption.

However, if you study history, a lot of corruption still happened.

Think about Chicago history and several other eastern cities and
even Seattle, Wa. All had periods rife with scandals.

On competence, I think that hasn't changed much either but perhaps
the complexity of the problems have increased.


On Oct 03 01:22 PM Mike from NYC wrote:

> Almost all former and current politicians are idiots and they appoint
> idiots like themselves to run our financial sector.
>
> During the Depression the politicians were smarter and less corrupt
> and they chose people like themselves to run the financial sector.
>
>
> Is it any wonder our financial sector has veered more and more out
> of control these past 15 years or so when Depression era regulations
> were repealed and called 'Market Reform'?
>
> Let's face it ladies and gentlemen, with such incompetent and corrupt
> politicians, both Democrat and Republicans, our country is screwed
> no matter how you cut the cake.
>
> Am I wrong?

Oct 04 12:01 AM

[Michael Clark:]

Reggie: I appreciate your expertise in these matters. I always look forward to reading your posts.

Oct 04 02:54 AM

[viewfromnyc:]

This analysis is dead on. One of the reasons bank failures persist is that the banks have been permitted to "play games with their loans". Troubled construction loans in 2008 and early 2009 were extended or the builders were allowed to complete the project with the construction financing still flowing. Look at Corus Bank. It was obvious that the projects financed by their loans were doomed in early 2008 yet they kept sending money out the door. From the bank perspective, their is no hope of recovering money on an incomplete project, better to continue funding the loan and have a completed project to sell in a potentially better economic enivornment when the project is finished. The loan stays current as there is an interest reserve built in so all the statistics the FDIC looks at to determine capitalization levels are not affected. Then once the loan comes due it immediately defaults with a very high loss severity since the economic recovery didn't materialize. Construction loans are very similar to negative amortization mortgages in that respect. Look how fast all those loans went bad and how severe the losses were.

One reason Paulson's current strategy is successful is that the government has removed the risk that many banks will be forced to shut or be seized. First in the too big to fail tier, there is zero chance of failure so the banks are now given time to rebuild the capital base and will eventually earn extraordinary profits by virtue of artificially low cost of capital and by reduced competition. In a normal banking environment when by virtue of idiosincratic risk a bank that falls below the required level of capital it is shut, it is game over with no chance of a future therefore zero equity value. Correspondingly, the only losers should be the equity holders as the assets should be sufficient to pay depositors and creditors. While for smaller regional and local banks, the shut down condition has not been completely removed, it is certainly less likely. The FDIC seems taking out the worst banks first so a relatively better bank, which in normal times would be seized immediately, now has a long time during which it can potentially earn enough to recapitalize.

When Warren Buffet was privately financing the banking system, the cost of capital was over 10% yet the Federal Reserve now provides it at 0.25%. That subsidy is a great stealth transfer of wealth from savers to the banks. The stockholders of the banks that survive are going to be richly rewarded.

Disclosure: No positions. Formerly short FED, CORS, WFC, BOFL.

Oct 04 10:50 AM

[Reggie Midd...:]

viewfromnyc: some of the banks are so sick they cannot take advantage of zero interest rates. Even JPM, the most respected, has actually had declining NIM, even though the Fed has been letting them get money for free and FASB has implemented "look the other way" accounting for marking their assets.

If you look at the economic earnings of most banks, they are not earning money nearly as fast as they are losing it on stinky assets. No matter how high your margins may be for funding, if you are not making loans those margins are not going to be translated into profits. The only substantial lending done over the last year was refinances and government subsidized purchases (with the $8k tax credit), and both of those have pretty much come to an end.

Now, the reality of a deflationary environment and extreme slack in credit demand will meet the reality of extreme dearth in credit quality and the deleveraging of highly levered assets that where written at the top of a bubble. The result, crash....

Oct 04 11:51 AM

[Teutonic Kn...:]

Reggie -

I concur with your views.

However, anything that is apt to come, as the final "crash" that you described above, would most likely behave like a woman's pregnancy. In other words, human folly reins, and akin to a baby being "due" it takes the full period of 10 months. The present idiotic march of the politicians and the Wall Street types will have to run its course.

Then it will be "due".

TK

Oct 04 03:37 PM

[ed233:]

When you read the comments to this article you do come across a number of believers. What I mean by this is that the good old USA will surely come out on top again as it always does. That's one theme underlying some of the comments. But hold on there, we've probably only just come through about 25% of the expected economic mess, that's right believe me. Now a lot of people have said the big shoe to drop next is the commercial paper looming either in default or near default. For approximately 5 years a large Canadian Reit has canvassed the commercial landscape of the USA and he's unable (he claims) to come up with not one single investment potential because there is underlying structural problems with valuation investing.(ie. calculating a credible market cap) for US commercial real estate. Then when you look at the potential taxes awaiting these commercial enterprises going forward you're probably looking at a dead horse. The necessary ingredient for most commercial enterprises is the spending retailer to keep the doors open. While unemployment figures are approaching 16% or more(yes I said 16%) and still climbing, then, where is the consumer spending going to coming from? I say in the future, maybe, the border towns of Canada and Mexico could play a role after the dollar tanks far enough. Is that going to be enough to sustain all those commercial enterprises? I know government motors got the best car because the new CEO said so. I too have a bridge I could sell you!! Anyway something to think about. LOL Looking after your money.

Oct 04 04:48 PM

[Anand Hira:]

seekingalpha.com/insta...

Follow Reggie's responses to counter arguments here...

Oct 04 08:05 PM

[Seth Chalnick:]

dragonpaw, my friend, I am publishing a SA article dedicated to you :)

Oct 05 02:45 AM

[Graham Jervis:]

www.zerohedge.com/arti...

Seems this lady is in Reggie's corner also. But who the heck is she anyway, just another doom and gloom, LOL.

Oct 05 08:38 AM