Bank lenders are always among the last to accept the fact that the loans they have placed in their loan portfolio might be bad.
“Oh, the economy will improve and the loans will improve with the economy.”
“These borrowers got hit with an unusually bad turn of events, but they are putting things together and the loans will improve as they get things in order.”
Bank lenders are optimists. They have to be. They also wear blinders when things go bad.
The problems that exist in bank loan portfolios have been one of my major concerns over the past two years. Check my blog posts if you don’t believe me.
The question has always been, “How big of a hair cut will banks need to take in order to truly reflect the value in their loan portfolios?
Remember that the TARP was initially supposed to help financial institutions get bad assets, unmarketable assets, off their balance sheets. That was a long time ago.
Elizabeth Warren, earlier this year in Congressional testimony, suggested that 3,000 commercial banks faced severe problems over the next 18 months with respect to their commercial real estate loans. There are less than 8,000 banks left in the banking industry.
The FDIC has nearly 900 banks on its list of problem banks. The FDIC has been involved in about 3.5 bank closings per week since the beginning of the year and this is expected to continue into 2011. But, how many more banks are on the verge of being included in this list? At least as many banks as are now listed?
And, for a long time I have been accusing the Federal Reserve of keeping the banking system extremely liquid so as to not create another banking crisis. By keeping the banking system liquid the Fed contributes to a more stable banking system that allows the FDIC to close banks more smoothly, which is just what has happened.
The price that Wilmington Trust (NYSE:WL) is taking from M&T (NYSE:MTB) is approximately 45% of the Wilmington Trust stock price on Friday. The valuation of the bank is roughly at book value…or, at least, at currently reported book value.
Monday the bank reported that it raised the level of its non-performing loans to almost $1.0 billion and its loan loss provision rose to almost $300 million up from about $40 million one year ago. Note that Wilmington Trust has just over $10 billion in assets.
Reports indicated that Wilmington Trust had been in negotiations with Spain’s Banco Santander (STD) “for months.” Executives at Wilmington Trust has known for a while of their weak condition. This effort fell through and the bank then cut a deal with M & T.
This transaction, and admission, should color the whole commercial banking industry…at least for those banks that fall below the largest 25 banks in the country. (Note that these 25 banks control two-thirds of the assets held by commercial banks in this country.)
How big a loss is still hidden on the books of the commercial banks in the United States? How much information is the regulators hiding from not only the public but from elected officials in the United States? How long can this charade continue?
When all of the regulators operate in such a “closed book” fashion and are so united…it makes one wonder. Why is the Federal Reserve, the FDIC, the Treasury Department, the Office of the Comptroller of the Currency, and the Office of Thrift Supervision working in such unison in this area…and providing so little information about what is going on?
One can add to this list the treatment of Fannie Mae and Freddie Mac. In reality, we, the people, are getting nothing from our government about what is really going on and the seriousness of the situation.
What is currently going on is one of the reasons why I am in favor of “fair market accounting” or “mark-to-market” accounting.
Commercial banks, before-the-fact, have got to present some kind of information on the value of the assets they have on their books. The fundamental reason for having banks “mark-to-market” their assets is that these banks must realize that if they acquire long term assets or take on more and more risky assets that they may, eventually, have to write those assets down should the market move against them. To me, “mark-to-market” accounting should be prevent excessive risk taking because the bankers know what they might have to do if things turn against them. In this respect these accounting practices are not meant to be an “after-the-fact” punishment.
I understand all the problems associated with trying to estimate the value of some of the assets. However, this very fact should cause bankers to be more cautious when they put such assets on their balance sheets.
How many shareholders would have liked to have had this information? Would the shareholders of Wilmington Trust have benefited by knowing that the stock they held was only about 50% of the going market value? This is information the shareholders should have!
Commercial bankers, especially loan officers, hate to admit their mistakes. In all my experience in banking, loan officers are the most reluctant people to admit that something might not be working out right.
It is this kind of attitude that has gotten us into the position we now find ourselves. How threatened is the capital base of the commercial banking industry? How many banks are truly insolvent? How are all these insolvencies going to be worked out? Who is eventually going to pay for all the insolvencies? And, we should not leave out Fannie Mae and Freddie Mac from the accounting.
The fate of Wilmington Trust is a shocker to many of us. As the Federal Reserve prepares to throw more spaghetti against the wall (see here) and the FDIC continues to work out more and more bank failures and the Thrift Industry closes its doors, we can only hope that the transition through these problems continues to cause as little disruption as possible. I am still betting that there will only be around 4,000 depository institutions in the United States at the end of 2015. Can this “halving” of the banking industry be done quietly?
Given this environment, however, how can we expect that bank lending will show many signs of life in the near term?
If this is the case, where is the credit to finance a recovery going to come from? Can quantitative easing really get the economy going again if the banking system is unable to lend?
How many more Wilmington Trust banks are out there?