Bove Finally Cuts Some Regional Bank Ratings

Oct.27.09 | About: PNC Financial (PNC)

What took him so long to figure out that there were problems with this sector? Picking through most of the earnings reports, you see massive “goodwill” and “intangible” builds, along with serious problems with deteriorating credit quality. Even PNC that everyone fawned over last week - take a look at their unaudited nonperforming loans which show that the credit quality is building, not easing. Just because actual defaults are easing doesn’t mean that loans that are 30 to 89 days late are getting better, which is the case with PNC and most regionals.

That is the rub right there, next quarter I believe, and this is my opinion: there will be much larger defaults than predicted. I am basing that on what is currently being listed in the 30-89 day late category, which technically is not considered in default, yet. Let us not forget we have the suspension of mark-to-market rules which severely impairs our ability to value assets on these banks' balance sheets. We also know, based on the actual earnings, that commercial real estate is in trouble and defaults are rising rapidly.

Further evidence of this is Capmark’s bankruptcy which happened Sunday night and 550 South Hope Tower was just appraised at half its 2007 value. There is a second shoe to drop and it is dropping now; get out of the way. If you choose not to get out of the way it could get ugly, and there is nothing that can be done about it. It is becoming increasingly more apparent that the TARP revolving door will find its way into smaller regional banks, but that does not mean CRE will be saved. It simply means that smaller banks will now become zombie banks, like we need small Citis (NYSE:C) or BoAs (NYSE:BAC).

I know that Cramer (whose book Getting Back to Even must be an I am sorry about his lousy stock picks), and the talking heads on CNBC think CRE is fine, but it is not. Anyone who looks at the defaults in this area or the YoY price declines and knows anything about how these loans work would never even suggest that CRE is fine, it’s plain ridiculous to make that statement. It is an enormous problem and it is growing at an exponential rate that should have the most diehard bull concerned.

What I am trying to say is that Dick Bove, who put a buy on Lehman just before its collapse (keep in mind that rumors of its impending doom were circulating for months beforehand and some trading desks in Asia were rejecting trades from them back in March of 2008), is a little late on the downgrades. This is not new, analysts are always late on upgrades or downgrades. Meredith Whitney is pretty good I think, but other than that they are more momentum players. It is not that I would do anything based on what Bove says anyhow, but I am sure some people do.

At the end of the day, if you take a hard look, with your own two eyes, at the actual earnings, I do not think you would be bidding these stocks up. The credit losses are going to be bigger than you think, unless employment comes down immediately, which will not happen. Most loans that fall 60 days late are never made good, that is a statistical fact; they may hang in there for a quarter or two, but eventually they fully default and that is what I am seeing. Given the amount of games we are seeing, I would not be surprised to learn that these institutions are deliberately re-dating payments on many of these loans to keep them from defaulting.

Credit quality is still deteriorating and that is the problem and it will be a continuing problem until unemployment is solved. Even after unemployment is solved, credit will continue to be poor for at least a quarter or so if not longer. I did not like this sector before when he liked them and I still don’t like this sector. I don’t care that it went up, there is simply too much risk for the reward. Moving forward, I think you could do much better elsewhere, especially in a sector that can leverage a weak USD currency, and in companies that have exposure to Asia which has much better prospects for growth than the US or Europe. That is just my opinion and one must do their own research and abide by their own risk tolerance.