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Frightening Trend – Regional Banks Bad Loan Exposure is 22% and Rising

|Includes: KRE, Market Vectors Bank and Brokerage ETF (RKH)

 This trend is yet another reason why the flight-to-quality trade is still present in the US bond market and credit remains tight. Check out this graph depicting the rate of exposure to bad loans held by US banks:

Bank exposure to Troubled Loand

Source: Moody’s

The regionals are by far in the worst shape. So far in 2009, the FDIC has seized 123 banks, up from 25 in 2008 and only three in 2007. How do those numbers compare to past banking crises? Two decades ago in 1989, during the S&L crisis, 531 banks failed during the peak year with several hundred failures in the years preceding and following. While industry consolidation has greatly reduced the number of banks outstanding in the US, we still have a long way to go before the failures will subside. For clues on who is next, the FDIC has listed over 400 more banks on their “troubled” list. The number of regional bank failures will continue to increase until this group shows that they either have adequate capital ratios to cover losses or the number of troubled loans diminishes significantly.

Market implications are that the flight-to-quality in bonds will continue and it is obvious that government intervention as a backstop in buying agency mortgage-backed securities is artificially keeping the loan market afloat. Expect credit conditions to remain strained well into 2010 and 2011 and don’t expect the FED to even think of raising rates while the exposure on troubled loans keeps going up.

Resources: FDIC, Moody’s

Disclosure: None