I-Bank Execs: Read My Lips... No New Capital

Investment Banking executives remind me of President George H.W. Bush (#41) when he uttered those regrettable words “Read my lips…NO NEW TAXES.” Except the current group is just making promises that they don’t need more capital. Of course, those comments go a long way to calm the crowd and suggest that the worst is behind us. They’ve been doing that since last fall but investors seem to have a very forgetful and forgivable nature. I am neither forgetful or forgiving when it comes to things like this.

• Merrill Lynch CEO John Thain March 16, 2008 - “We have carried out an enormous cleaning of our credit portfolio. We have more capital than we need, so we can say to the market that we don’t need more injections. We can confirm that we have tackled the problem.”
• Merrill Lynch CEO John Thain April 3, 2008 -”We have plenty of capital going forward and we don’t need to come back into the equity market.”
• Merrill Lynch CEO John Thain April 17, 2008 - Says he is “open” to raising capital through preferreds.

In the end, they raised billions. They had to after all. Never mind the promises. As they say….promises are meant to be broken. We all know that. Why get so upset?

Citi has had their share of “read my lips” promises too. In January, after the billions of capital injections received from the Sovereign Wealth Funds, Citi CFO Gary Crittenden and CEO Pandit suggested the bank wouldn’t need to raise more capital. Then on April 18, 2008, Crittenden said this about needing more capital infusions - “You can never say never.” Tonight, never is now as they announce another $3 billion of new equity that will dilute existing shareholders.

Everybody seems to love new capital….The media loves new capital…The Fed loves new capital…The market bulls love new capital. They love hearing that no new capital will be required. They also love hearing that new capital is required but it’s already on the way. Both stories work just fine. This either means that the kitchen sink worked and the worst is behind us so we won’t need new capital. Or…this means there is a strong appetite for investors to keep plowing more money into these blackholes and we will always have new capital to avoid big problems that might require another government bailout. In fact, go back to the post-Bear Stearns bailout articles and you’ll see that whether it was UBS or any other writedown, as long as it was followed with the promise of new capital…it was all good and the markets went higher. Imagine an exec of a financial institutions being honest and saying they don’t have enough capital….Just ask Alan Schwartz what happens when you cannot lie about it any longer. Imagine an exec promising to cut dividends. Imagine an exec saying they have no clue how much they’ll need but just plan on them asking for a few billion every quarter until they don’t ask anymore. The truth hurts. Apparently, the lack of truth is much preferred in our current market.

I don’t dislike new capital. I dislike the appearance that these comments were made specifically to manage the stocks and the markets. Apparently, there are no consequences for making promises that will be broken as long as it helps the government and the bulls prop up the markets. It’s either intentional miscommunication or it’s an incompetent failure of execs to understand their balance sheet. Neither of those are encouraging to me.

Comments

[bearfund]

These guys understand their balance sheets all too well. That's exactly why they're constantly talking about how much capital they don't need. The old saw holds that banks only lend to people who don't need the money. The same is true of SWFs and other sources of capital when the shoe is on the other foot. The banks have spent the past 10 years handing out liar loans to people with highly dubious balance sheets. Now the banks are the ones with the dubious balance sheets. "We don't need money and no you can't see our books but I guess if you really want to give us $3b and dilute our existing shareholders we'll let you anyway." Sure. Just like Tommy OwnedHomer didn't really need that 103% LTV no-doc but I guess if the bank threw a 2% teaser option ARM at him he was willing to help it out by borrowing anyway. It's an open question whether MER and C are in better shape than Tommy but of course they are interlinked anyway so we don't need to spend much time on academic concerns like that.

Two-word summary: Long SKF.

[andrewh10]

Lies, lies, and more lies out of the mouths of most financial CEOs these days regarding further capital raising and increased dilution. Even the foreign sovereign wealth funds coming in to fleece America’s so-called finest assets are finding themselves buying flawed diamonds because the balance sheets are not really what they thought they were. The backdoor deals going on now to desperately raise cash at C, MER, LEH, BX, and many others are quite disturbing. Why should the equity be rewarded in this type of situation? Wall Street always tries to sell and disguise as for the many talking head analysts like Richard Bove at Punk Ziegel who have been ringing bells saying time to buy financials. I disagree and think we are in store for some more pain in the financial sector especially the banking industry. It seems they have entered a new ball game but they are still playing by the old rules. We need to see more of the flawed and mismanaged firms like BSC disappear (bankruptcies are a natural way of taking out the trash and refreshing it with new companies) and only after that period will there be some nice buying opportunities. Many folks are bidding up the banks because of the favorable FED actions but this very positive low interest rate environment is about to get more difficult going out a few years.

[pshah]

Good article, Mike. You forgot to give special kudos to Dick Fuld of Lehman who invented a new explanation for his firm raising capital at the end of March: 'We didn't need the new capital but raised it to prove that we can...'