Palomino

Independent Analyst Numbers Far Uglier than Official Stress Test Rumors

I agree with your observations and think there is more bad news in the corporate loan books and emerging markets exposures on top of what you list. Not to mention exposures to insurers and autos through credit derivatives. Even after the government capital injections, some of the money center banks and super regionals would be insolvent if they marked their books properly now.

Hence the moves by the IASB and FASB to allow banks not to mark impaired assets through a variety of fudges. In a letter to the current chair of the G-20, Britain's Prime Minister Gordon Brown on April 29, 2009, the Financial Crisis Advisory Group (set up by the IASB and America's FASB) wrote "The FCAG believes that off-balance sheet standards particularly need improvement.....and also in the provisioning area...can increase transparency, preserve financial statement integrity and thus contribute to reducing the financial sector's vulnerability to excesses of the business cycle. As we share a common interest in bolstering the financial system's integrity and stability..." By their own admission, the accounting board's priority is the "system's integrity and stability".

Forcing banks to consolidate large portfolios of impaired assets, write-down and provision for NPAs and impaired assets, would guarantee system collapse. Hence the accounting changes that have enabled the banks to hide the true state of their balance sheets and raise debt and capital in the market from unsuspecting investors. The only reason the government is conducting the stress-tests is because nobody out there other than bank management can actually tell what the banks' true exposures are anymore so they feel the need to pretend to be safeguarding investors' interests. But the stakes are too high to take a cautious approach and so the results can only be intended to reassure (mislead) the market further.

So the banks can't "come clean" because the market would panic and the resulting defaults and lack of liquidity would cause the worst economic collapse in history, which is where we were headed before accounting standards were thrown out of the window.

The first question I have is essentially the same as yours... How will the banks re-build the capital that they have already completely depleted if they marked their books properly? One way is through increased profitability from hugely increased Net Interest Margin (a government capital infusion by the back door). Only banks can borrow from the government at close to 0% and then buy Treasuries at 3+%. Since US Treasuries attract no capital charges, banks can do this ad infinitum, funding the US deficit in the process.

But this Ponzi scheme is backed by the US Government and for now, it isn't in any big institution's interest to announce the Emperor isn't wearing any clothes. Only a buyer's strike by other governments and in particular China, also causing a collapse in the US Dollar, would bring this new house of cards down. And I doubt this will happen anytime soon. China needs the US to export to.

Likely the government will allow smaller banks which do not carry systemic risk to fail, enabling the big banks to pick up balance sheets on the cheap, as well as accessing new and profitable business as the market consolidates.

But ultimately, the bank's ability to re-build capital will be slower than the market imagines, particularly as they will need to write-off NPAs over a long period of time and with profits hampered by new bank regulation likely to limit leverage, impose restrictions on credit card rates and foreclosures.

The markets are now pricing the implicit government guarantee and this has led to the recent rebound in major bank stocks. If the banks are too big to fail, there has to be some option value to buying them in the single digits. Ultimately the question is what is the correct level to reflect likely earnings? I'm sure someone clever will do the maths.

Credit Default Swaps: Financial Weapons of Mass Destruction

A huge number of synthetic CDOs and single name CDS have GM or GMAC as the Reference Entity. With the current restructuring efforts, will this event trigger the next focus on credit derivatives exposures?


On May 05 07:01 AM Tom Armistead wrote:

> Derivatives are concentrated in the 5 largest banks. All of them
> have derivative assets in excess of their derivative liabilities.
> That is strange because derivatives are a zero sum game and the positions
> should net out to zero.
>
> The only way to keep the Ponzi scheme rolling is to periodically
> take down another victim. Bear Stearns is gone, Lehman is gone,
> AIG has been sucked dry...Kazakhstan is small fry...
>
> As Geithner and his colleagues finish up the stress tests it will
> be interesting to see whether they address the issue of CDS. Unless
> this is done soon, there will be more implosions.

Do You Believe Banks Are Recovering? (Part 2)

You raise some excellent example of why the big banks HAVE to be insolvent. The question is not whether they are insolvent but how big is the hole?
Some factors that do not seem to have hit the headlines nor been included in the paltry write-downs are:-
1. Emerging markets. Both US and European banks have been falling over themselves to lend to Latin American and Eastern European economies respectively over the last five years. This fuelled a mind-boggling boom in countries where infrastructure, fair legal systems and accounting principles have not changed since the 19th century. Those same countries have suffered precipitous falls in commodity prices, their currencies and a reverse tsunami of foreign capital. Has this been reflected in bank mark-to-markets? Methinks not.
2. Credit derivative and CDOs/CLO exposures include significant exposures to autos, banks, insurers and monolines. Most of these contain triggers based on restructuring events, not just default. Have these been marked to market? A fraction of total exposure being held on trading books will have been, but the majority held in investment portfolios? Methinks not.

I am not sure that regulators are complicit in a conspiracy to pull the wool over our eyes. I think it more likely that banks are not drawing their attention to or explaining the full exposures that they have. One way or the other, there is no doubt that the banks are pulling a confidence stunt and hoping that the appearance of stability, combined with unprecedented fiscal and monetary measures to boost liquidity, will eventually prevent further failures and remove the need for them to write down assets which are currently worth between 10 - 50% of book but currently held in hold-to-maturity books at par.

All of this is dependent on investor confidence. The banks know it and even if government doesn't know the full facts, they certainly know this much. Therefore, would I believe anything either of them are telling me at the moment? Methinks not!

Cramer's Mad Money - Steel Reels, Coal Stinks (10/27/08)

It just don't figure.. JPMorgan is down about 26%, Bank America is down about 55%, Wells is down about 16%. How are people so sure that Wells has better underwriting standards, different retail and corporate clients that it can be so much more expensive. I'm not aware that they have been more aggressive in their write-downs or provisioning. And then there's the Wachovia integration. Looks like a sell to me

Total Bank Loans and Leases Reach a New Record

I think the reason the amount of loans is going up is that banks have always run huge books of committed loan facilities. Corporate clients generally do not draw these down but in today's conditions, with CP, ABCP and bond markets closed, I would guess they are all drawing down their loans at historically unprecedented levels to meet their working capital and re-financing needs. The banks can't get out of these obligations so their balance sheets are ballooning.