Pricing Japanese Banks for Bankruptcy is Overdoing It

Many have dismissed the Fed’s unprecedented 75bps inter-meeting cut as an overreaction to plunging equity prices and/or an effort to get ahead of the subprime contagion curve, which they have fallen significantly behind.

However, what if the move was in response to the potential for a much more serious credit crisis, that is still working its way through the global financial system?

George Soros’ description of the current crisis as “the worst since World War II”, and statements like “this is not normal crisis” or “central banks have lost control,” smack of something more ominous than merely getting ahead of the curve. There is even talk of several extremely large banks of the “too big to fail” size technically having negative equity.

This is beginning to sound increasingly like Japan’s financial crisis in 1997. For most of Japan’s crisis which resulted in the Heisei Malaise, both BOJ monetary and government fiscal policy were essentially powerless to stop a massive unwinding of some JPY200 trillion of debt.

Then, the debt problem was largely confined to within Japan’s shores. This time it is global in that it has already hit financial institutions around the world and will inevitably hamper global economic growth as well.

An equally virulent debate is whether the BRICs, VISTAs and other emerging economies can de-couple from a U.S. recession. The answer in terms of equity markets is mistakenly clear: global stock markets are like Siamese twins in downturns. As for Japan, global investors have already mentally ticked off a recession for Japan, regardless of whether the U.S. has a hard landing and/or there is emerging market decoupling or not.

This has created some very deep value plays, i.e., stocks trading below break-up valuations. The Topix banking sector, for example, is trading at a PBR of 0.32. At these levels, Japanese banks don’t have to conquer the world for investors to make money. They just have to survive as going concerns (which is imminently more likely now than in 2003), thereby erasing the bankruptcy discount, as was the case in the rally following 2003 lows.

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Comments

[William L.Florida, CFA]

Dear Mr. Whitten,

While the headline is very interesting, I must say that it does not seem to be supported by facts. Could it be that you were sloppy in preparing this conclusion?

The most glaring issue is that you state that Japanese Banks as measured by Topix trade at a P/B ratio of 0.32. I checked the 95 publicly traded banks today that have positive P/B ratios. The average P/B is 0.85, the Mkt Cap weighted average is 1.1, and the median P/B was 0.77. I could find only one bank below your quoted level of 0.32, and that was Bank of Kochi, listed at 0.31. It is hard for me to understand how this data would lead to a market average of 0.32. Are these banks going bankrupt? Maybe, but I don't see how you could determine that from the price.

In addition, the chart shows "Nikkei" data, but the heading says banks are the cheapest "Topix" sector.

It seems to me that this is not the first time I noticed sloppy fact checking in your articles. I would be very grateful if you could work to improve the standards of Seeking Alpha, which I otherwise enjoy and find very useful.

Sincerely,

William L. Florida

[DarrelWhiten]

Dear William;

I don't know what your source of data is, but the source of the data for my comments was the Kabushiki Shimbun website
(www.kabushiki.co.jp/ma...), which carries daily TSE 1 sector quotes as well as forward PER and historical PBR and Dvd Yield for 33 sectors. They calculate PBR using the latest full fiscal year consolidated shareholders' equity per share, and the bank sector Arithmatic Stock Price Average.

The Tokyo Stock Exchange also publishes monthly PER and PBR data based on the TSE 1 Arithmatic Stock Price Indices. At the end of December, the book value per share for the TSE 1 Bank sector as calculated by the exchange (on a consolidated basis) was JPY650.80 per share, while the Arithmatic Stock Price Index for the Banks was JPY539.04, resulting in a PBR of 0.83 at the end of December 2007.

The Arithmatic Stock Price Index for the Banks recently fell to the JPY240 level, which works out to a PBR of 0.37X, implying that the Kabushiki Shimbun data is not in error.

Thus I fail to see how my comments could be construed as "sloppy" based on this data. Rather than going into a long explanation about whether the arithmatic stock price averages are better or worse than Topix indices or the Nikkei 225 indices, I believe my point is still valid, i.e., Japanese bank stocks are in aggregate at extremely oversold levels.