Banks Exercise the 'Peter Principle'

In University we learned about the 'Peter Principle': An employee rises to his highest level of incompetence. The issue at hand is not our personal level of incompetence but rather the level of incompetence or possibly greed of all too many of the world’s financial institutions. The list includes Bear Stearns (BSC) which is facing a whammy of possible indictments from the State of Massachusetts for improperly trading mortgage securities with various hedge funds, as well as the failure of two of its own hedge funds and a basket full of unsavory and possibly valueless bad loans. Citi (C), UBS (UBS), Barclays (BCS) and too many to mention are proverbial club members as well. Didn’t these international banks learn their lesson in the 1980s with the entire Latin American debt debacle or even in the 1990s with US real estate? Seems not! Really who is watching the banks after Enron and WorldCom disasters?

Unfortunately these banks have once again risen to their highest level of incompetence. Bear Stearns will celebrate its first quarterly loss in 84 years. This surely is not a celebration that I want to attend. Analysts are coming out and suggesting that banks have not written off enough debt. It seems each day a new higher number is presented of illiquid non-performing paper that needs to be written off. Interestingly enough a recent survey of economists polled suggested some intriguing thoughts: 50% of them thought the credit crisis was over.

The reason I am writing about this topic is that I have had multitudes of conversations with clients and potential clients suggesting that the carnage might be over and that it is a good time to purchase these financials. As much as I am a quant trader, I am a value investor. It is hard to put my hands around these financial companies albeit they are cheap. The issue is that it seems every day there is another surprise... One of the stories that should be making headlines is that a money market fund/cash equivalent fund of GE (GE) is valued at 96 cents as opposed to a dollar. Oops...you just lost 4% of your principal when you thought you were entirely safe. Who reads the small print on your cash equivalent fund documents, that this it is not FDIC-insured and may and can lose value, anyway?

One does not know what is on the books or off the books in their SIV at these banks. Using Warren Buffet’s statement - "If it is too complicated to figure out, then pass”. This is the case, and also my advice to investors and traders. Another source of agreement can be tacitly confirmed as in any of the recent SEC 13F filings of any of the successful value managers: None has picked up any shares in any of these banks. This is the anti thesis of what transpired in the early 1990s when so many of these value managers such as Warren Buffet, Greenblatt and Tweedy Brown went picking up Wells Fargo shares.

There will be a capitulation, as there usually is, and that will be a great time to build wealth for the long run, but in the meantime have patience. And if you find out who is minding the banks, please let me know.

Comments

[BlackSwan]

You're a bit premature as you'll soon find out that Eddie Lambert picked up about three million shares of Citigroup in the third quarter and Warren added to his Wells Fargo.