After a huge fall off in credit consistent with the fall in nominal GDP, we are seeing credit stabilise at a lower level. Debt to GDP ratios may not be lower, but as GDP is lower, so too is credit in the system.  Yet there is a large difference between the haves and the have-nots, largely due to a difference in which banks received government largesse and which did not.

Bank analyst Don Coxe puts this in perspective for us:

A sustained U.S. economic recovery is unlikely until all banks, and not just the big institutions bailed out with government funds, start to recover from the effects of the financial crisis, according to longtime investment strategist Don Coxe.

Many banks that got funding from the government have seen their shares soar, while smaller, regional banks have not.

That’s a sign that investors believe the smaller banks are less well placed to participate in, and contribute to, the economic recovery, said the chairman of Coxe Advisors LLC in Chicago, who advises clients of the BMO Financial Group.

Think big banks – big business, small banks-smaller business.  In effect, the credit flow for large multinationals is now back to normal.  However, like consumers, small and medium-sized enterprises (SMEs) are finding a tougher reception. Revolving credit lines are being cut and loans are harder to come by (one reason Warren Buffett and Goldman Sachs are stepping into this space in this crucial holiday season).

This is a case of supply and demand constraints. One the one hand, credit supply is constrained because regional financials are loaded down with bad debts and have not received the same measure of bailout money that big banks have.  On the other hand, SMEs are having to downsize and are demanding less credit.

"The thousands of regional U.S. banks on which an economic recovery depends have not participated in the sudden explosion of trading profits" of the biggest five U.S. banks, he said.

The state aid granted to large banks during the financial crisis has convinced investors the government will step in again in future to save the behemoths if needed. That has helped pull share prices back up from the 12-year lows hit in March.

By contrast, as more commercial real estate loans turn bad in the still-feeble economy, regional and community banks are struggling.

A key gauge of the gulf between big banks and smaller lenders is the KBW Regional Bank Index exchange traded fund (KRE.P). The ETF’s recovery has lagged the rebound in shares of the biggest five U.S. banks, said Coxe.

"There will not be the kind of sustained U.S. economic recovery that will drive a sustained U.S. bull market until the shares of the Main Street (KRE) banks begin to outperform" both those of the biggest five banks and the S&P 500 index .SPX, he said.

Small bank index suggests recovery is elusive – Reuters

Related posts:

• More warnings on regional banks
• Regionals are exposed to credit crisis
• Michael Panzner: regional banks in trouble
• Relative value in financial services
• Fifth Third takes on assets of Freedom Bank

Credit Suisse has a note out urging caution on Citigroup shares due to regulatory hurdles.  Their logic bears noting as it can be useful for other U.S.-based banks.

On Monday the CS analysts met with Citi management, who were somewhat cautious. The CS note indicates that regulatory changes in the U.S. are likely to mandate higher capital ratios and this necessarily will constrain returns on capital, not just at Citigroup but elsewhere in banking.

Another question involved deferred tax assets (DTAs), which I brought up last week. Citi said only $13 billion of the $38 billion in DTAs were counted against Tier 1 capital, meaning any writedowns to capital will have much less affect on Tier 1 capital. About $14 billion in DTAs were related to Citi’s burgeoning loan loss reserves; so the tax losses have not yet been triggered. This may give Citi time to earn money in order to use the DTAs. Again, the key with Citi’s DTAs has to do with how much it earns going forward. If it does not earn enough money, the deferred assets will have to be written down.

In general, banks are now entering a less favourable regulatory environment.  Moreover, in March, many bank stocks were trading below tangible book for the first time since 1990, at the height of the last major credit crunch in the U.S.. After a more than doubling in bank stocks from March lows, this is no longer the case and it will be harder to beat now elevated earnings estimates.

Meredith Whitney has said she expects the large cap bank stocks to underperform due to some of these hurdles and sees a relative value play in regionals.  However, a lot of CRE and loan construction exposure remains at regionals and the continued seizure of 3 or 4 banks every week by the FDIC points to distress.

I continue to believe upside in bank shares is limited all around.

Related posts:

• How well capitalized is Citigroup?
• How is Citi going to deal with $38 billion in deferred tax assets?
• The Citigroup Bailout: a blogosphere post-mortem
• Citigroup and Redecard: shedding international assets
• Rubin resigns from Citigroup

Is this propaganda? I just received this e-mail from the FDIC’s consumer news with the title above. Personally, I never doubted that unbrokered deposits under $250,000 are safe at U.S. depositary institutions. But, the natural sceptic in me doesn’t like to see someone reaffirm what I thought I already knew.

As bank failures are in the news, the Federal Deposit Insurance Corporation is helping consumers understand why, as Chairman Sheila C. Bair has said, "there’s no safer place in the world for their checking, savings or retirement money." The Fall 2009 issue of FDIC Consumer News gives facts and figures explaining the agency’s financial resources run deep and that insured deposits are fully protected.

"Depositors should understand that the chances of their bank failing are low, and even if their bank does fail, depositors have nothing to worry about," said Chairman Bair. "The FDIC fully guarantees their insured deposits and provides them with seamless access to their money. For the insured depositor, a bank failure is a non-event."

The newsletter gives these reasons why consumers can trust the ironclad protection of FDIC insurance:

• By law, federal deposit insurance is backed by "the full faith and credit of the United States government." It means that the financial resources of the U.S. government protect federally insured depositors. "In short," said Chairman Bair, "we cannot run out of money."
• If needed, the FDIC can quickly borrow money from the U.S. Treasury. However, Chairman Bair has stressed that the FDIC expects to continue to collect premiums from the banking industry to pay for banking industry problems — without borrowing from U.S. taxpayers.
• Federal law also requires that all insured deposits be paid "as soon as possible." If a bank fails, the FDIC has always paid every penny of insured deposits, up to the insurance limit, including principal and any accrued interest through the date of the closing. In most cases, the FDIC provides access to accounts on the next business day by arranging with a healthy institution to assume the insured deposits. .

According to Chairman Bair, the bottom line for consumers is this: "No insured depositor has ever lost a penny of insured deposits — and none ever will. The FDIC was created specifically for times like these. Our resources are strong. Your insured deposits are absolutely safe."

A related article reminds consumers that the basic maximum insurance amount under current law is $250,000 through year-end 2013, but that, as always, customers may qualify for much more protection at the same bank depending on the types and ownership of their accounts. The same article highlights FDIC resources that can help answer consumers’ questions about deposit insurance coverage.

Also in this issue are tips for paying with plastic. One article helps consumers understand the potential benefits and concerns when choosing and using debit cards versus credit cards. Another article examines prepaid cards, which have evolved from gift cards sold by individual retailers to multi-purpose, "reloadable" cards that can be used to pay for purchases and access cash at ATMs around the world.

Another article offers five things to know about safe deposit boxes and home safes. Among the tips: Bank safe deposit boxes are good choices to store originals of key documents, such as birth certificates and property deeds, but probably not for anything someone might need to access quickly on a night, weekend or holiday. Also, people are better off stashing their cash in a bank deposit account than in a home safe or a safe deposit box, where the money can’t earn interest and won’t be protected by FDIC insurance.

The goal of FDIC Consumer News is to deliver timely, reliable and innovative tips and information about financial matters, free of charge. The latest issue can be read or printed atwww.fdic.gov/consumers/consumer/news/cnfall09. To find current and past issues, including special editions, visit www.fdic.gov/consumernews or request paper copies by contacting the FDIC’s Public Information Center toll-free at 1-877-275-3342, by e-mail to publicinfo@fdic.gov, or by writing to the FDIC Public Information Center, 3501 North Fairfax Drive, Room E-1002, Arlington, VA 22226.

There are two ways to subscribe to the quarterly FDIC Consumer News. To receive an e-mail about each new issue with links to stories, go to www.fdic.gov/about/subscriptions/index.html. To receive the newsletter in the mail, free of charge, contact the Public Information Center as listed above.

Source

No Safer Place in the World for Your Money – FDIC

Related posts:

• Westsound Bank seized by FDIC
• SunTrust Bank receives insured deposits of Omni National Bank
• FDIC Friday Night Special: Lincolnwood
• FDIC shuts down Haven Trust and Sanderson State
• FDIC moves in at Great Basin Bank

Below is a CNBC video with Meredith Whitney in which she joins Nouriel Roubini on the doom and gloom parade.  Over the summer, both Whitney and Roubini were fairly optimistic. In June I said:

Think of the consensus forecast as an anchor which restricts the outlook of any individual forecaster afraid of failing unconventionally.

In Roubini’s case – and this logic also applies to media darlings like Meredith Whitney – it does NOT pay to up the ante.  What Faber is saying is that they have already benefitted from the bold and unconventional contrarian market call they initially made.  There is little payoff and much risk from continuing on that path.

To wit, Whitney upgraded Goldman Sachs to a buy and by July she almost sounded bullish. But, things are vastly different now. The banking index is up some 136 percent, with many stocks doubling and tripling. Some are up nine times. This is way over the top.

In her interview with Maria Bartiromo, Whitney gives ample reason to expect significant headwinds in the financial services industry and the economy more generally. While I am less certain that we are presently seeing a secular move to consumer deleveraging yet as evidenced by recent retail sales and current account deficit numbers, there is no doubt that credit lines to small businesses and consumers have been cut as Whitney details. 

I have also been getting much gloomier about the prospect of a sustainable recovery as a result.

With fiscal belt-tightening on the agenda at states and municipalities and, now, federally, I expect a double dip in 2011 – a view Whitney shares.

The key question in financial services?

Maria Bartiromo: Do you think that the sector is adequately capitalized today?

Meredith Whitney: No way.

Maria Bartiromo: No way?

Meredith Whitney: No way.

She is bearish on bank stocks generally. As for relative value trades, Whitney says the trade was large cap banks over regionals until now. However, she says now is the time to reduce weight in large cap banks as the outperformance due to government backstops may be about to disappear.

A lot more in the video below. The interview with Whitney runs 11:47.

Related posts:

• Bill Miller and Meredith Whitney: The Bull and the Bear
• Meredith Whitney: “I would diversify out of financials here”
• Meredith Whitney seems onboard with the fake recovery
• Meredith Whitney: more bearish than ever, but…
• Is Meredith Whitney bullish now?

Orion Bank, Naples, Florida

As of October 31, 2009, Orion Bank had total assets of $2.7 billion and total deposits of approximately $2.1 billion. The FDIC accepted a 1.5 percent discount from IBERIABANK on the deposits of the failed bank. In addition to assuming all of the deposits of the failed bank, IBERIABANK agreed to purchase $2.4 billion of the failed bank’s assets. The FDIC retained the remaining assets for later disposition.

The FDIC and IBERIABANK entered into a loss-share transaction on approximately $1.9 billion of Orion Bank’s assets. IBERIABANK will share in the losses on the asset pools covered under the loss-share agreement.

Century Bank, Federal Savings Bank, Sarasota, Florida

As of October 31, 2009, Century Bank, FSB had total assets of $728 million and total deposits of approximately $631 million. The FDIC accepted a 1.5 percent discount on the deposits of the failed bank from IBERIABANK. In addition to assuming all of the deposits of the failed bank, IBERIABANK agreed to purchase $706 million of the failed bank’s assets. The FDIC retained the remaining assets for later disposition.

The FDIC and IBERIABANK entered into a loss-share transaction on approximately $656 million of Century Bank, FSB’s assets. IBERIABANK will share in the losses on the asset pools covered under the loss-share agreement.

Pacific Coast National Bank, San Clemente, California

As of August 31, 2009, Pacific Coast National Bank had total assets of $134.4 million and total deposits of approximately $130.9 million. Sunwest Bank did not pay a premium to assume all of the deposits of Pacific Coast National Bank. In addition to assuming all of the deposits of the failed bank, Sunwest Bank agreed to purchase essentially all of the assets.

Related posts:

• Seven banks seized by FDIC
• FDIC shutters five more banks
• FDIC moves in at Great Basin Bank
• FDIC Friday Night Special: San Joaquin Bank, Bakersfield, California
• FDIC Bank seizures 56 and 57

The Jamie Dimon piece in today’s Washington Post is a must-read. Dimon, head of behemoth JPMorgan Chase makes the best case for not breaking up large too-big-to-fail financial institutions. His idea: set up a robust resolution process and let reckless lenders fail regardless of size.

Now, back in September, I attended a meeting at the Clinton Global Initiative where both Americans Sheila Bair and Jamie Dimon and British bank executive Peter Sands gave their ideas on the too big to fail idea. They all agreed that too big to fail must end. But, while Bair was arguing for shifting the balance of power toward smaller, community banks, Dimon was arguing, as he does in the Post, to keep large organizations intact.

Reviewing the exchanges, I wrote:

What I found interesting was the general agreement between Dimon, Sands and Bair that regulatory reform to date has been a bust…  the conversation made clear that Bair, Dimon and Sands all felt that the first and most important bit of financial reform must be to set up a resolution process in order to deal with too-big-to-fail institutions. Let me characterize Dimon and Bair’s remarks below.

Jamie Dimon. It is clear that Dimon believes JPMorgan Chase was never in any real jeopardy during the financial crisis. He spoke on several occasions about the lack of a resolution crisis to deal with large firms without mentioning any names, but clearly intimating that other beleaguered institutions like Citi and BofA were saved by this. He said that the financial crisis should not be used as an excuse to break up large institutions (like his) because the crisis was the result of bad lending as in any other crisis. He said, smaller imprudent lenders are being liquidated systematically by the FDIC. The only reason larger companies did not face liquidation is because no resolution mechanism was or still is in place to deal with them…

He said the present reform proposals are not heading in the right direction and used an analogy saying, “If we had a problem with our legal department, I would tell the guys to fix the legal department. If the government had the same problem, it would create a second new legal department.”  Over-regulation is not the answer. Smart regulation is.

Sheila Bair. Bair was in stunning agreement with Dimon on the core issues. She too said the first priority of any financial regulation must be to put a resolution mechanism in place to deal with too-big-to-fail institutions. She rejected the concept of the Federal Reserve as the main financial regulator, something even Ben Bernanke is now rejecting. But, she disagreed with Dimon. Instead she felt that the financial system had veered excessively into derivatives and other complicated financial products and that this was a major contributor to the financial collapse. She advocated regulating these and increasing the focus on traditional banking products typical in community banking. It was clear from these remarks that she favors community banks over too-big-to-fail institutions.

Both points of view make sense. Dimon is obviously advocating from the position of an interested party. Nevertheless, he does make good arguments. Note that he says management should be fired. Shareholders should be wiped out. Unsecured creditors should, if necessary, be wiped out too. This is a big deal.

Here are excerpts of what he had to say (bolding added).  The link to the full article is at the bottom.

Our company, J.P. Morgan Chase, employs more than 220,000 people, serves well over 100 million customers, lends hundreds of millions of dollars each day and has operations in nearly 100 countries. And if some unforeseen circumstance should put this firm at risk of collapse, I believe we should be allowed to fail…

But ending the era of "too big to fail" does not mean that we must somehow cap the size of financial-services firms. Scale can create value for shareholders; for consumers, who are beneficiaries of better products, delivered more quickly and at less cost; for the businesses that are our customers; and for the economy as a whole. Artificially limiting the size of an institution, regardless of the business implications, does not make sense…

Creating the structures to allow for the orderly failure of a large financial institution starts with giving regulators the authority to facilitate failures when they occur. Under such a system, a failed bank’s shareholders should lose their value; unsecured creditors should be at risk and, if necessary, wiped out. A regulator should be able to terminate management and boards and liquidate assets… We can learn here from how the Federal Deposit Insurance Corp. closes banks…

…It also requires effective international cooperation, as the implications of a major financial institution’s failure are global. This is challenging but worth doing…

As we have seen clearly over the last several years, financial institutions, including those not considered "too big," can pose serious risks for our markets because of their interconnectivity. A cap on the size of an institution will not prevent that risk. Properly structured resolution authority, however, can help halt the spread of one company’s failure to another and to the broader economy…

To understand the harm of artificially capping the size of financial institutions, consider that some of America’s largest companies, which employ millions of Americans, operate around the world. These global enterprises need financial-services partners in China, India, Brazil, South Africa and Russia…

…a fragmented banking system cannot always provide the level of service, breadth of products and speed of execution that clients often need. Capping the size of American banks won’t eliminate the needs of big businesses; it will force them to turn to foreign banks that won’t face the same restrictions.

Source

No more ‘too big to fail’ – Jamie Dimon, Washington Post

Disclosure: I have no financial interest in any financial services companies. Further, I have said previously that I do not favor re-imposing Glass-Steagall as a magic bullet solution given that most financial carnage over the past twenty-five years has originated in the regulated commercial bank sector. Like Dimon and Bair, I see a robust regulatory regime as critical. On the other hand, I am generally in favor of reducing bank size, unlike Dimon.

Related posts:

• The failure to address the looming too-big-to-fail issue
• Jamie Dimon on the economy
• Jamie Dimon: ‘we don’t need’ your money
• Quote of the day: “Jamie is always hanging around the hoop”
• Jamie Dimon: “If You Are Not Fearful, You Are Crazy”

In a recent post, “How is Citi going to deal with $38 billion in deferred tax assets?,” I pointed to a Reuters article which called into question Citigroup’s ability to earn enough money to prevent its having to take a charge for an incredibly large deferred tax asset. That post generated a response from a Citi representative who emphatically defended Citi’s capital position with a chart comparing Citigroup to other large global financial institutions.

Below is that chart:

As you can see from the chart, based on Citi’s reported public accounts, the company is well-capitalized. Moreover, even hedge fund operators like John Paulson who maid a mint on shorting financials in 2007 and 2008 now think Citi is in much better condition. Paulson was known to be buying shares in August.

You could agree or disagree with Paulson about whether Citigroup is a buy at its present share price. And you could argue that Citi should be taking the charge that Willens suggests. But the fact is, Citi has been recapitalized – at taxpayer expense. And that’s more the point here. 

Citigroup has received more money from the government ($45 billion) than any other bank in the U.S., none of which has been paid back. Moreover, the government was forced to not just forgo dividends on its preferreds but also convert these into common equity and provide debt guarantees for the company. Absent government money, Citigroup is the worst capitalized big bank. Absent government money, Citigroup would not exist.

Even still, Citigroup cannot be nearly as profitable as it once was because it has been forced to sell assets in order to achieve its ratios. Yet, it is an organization with almost $1.9 trillion in assets and is certainly still too big to fail.

I see Citigroup as emblematic of the problems we face in dealing with large systemically dangerous institutions. They insist that we return to some semblance of business as usual after they have received massive bailouts without any clear timeline when those monies will be repaid – if ever. Meanwhile, it is far from clear what these institutions would look like if the collateral they put up for loans received from the Federal Reserve and the rest of their assets were marked to market.

I, for one, think the big banks have made it. I said so as far back as April. I may not like the way they have been recapitalized, but I am in little doubt that they have been.

But Citigroup and Bank of America in particular have gotten there with great help from taxpayers. All of the too-big-to-fail financial behemoths exist because of government largesse. That high-level executives of these organizations show little contrition or remorse for having cost our economy tremendously is the saddest part of this crisis.

Disclosure: I have no financial positions in Citigroup or any other financial services company.

Related posts:

• My take on the latest Citigroup bailout
• The Citigroup Bailout: a blogosphere post-mortem
• Rubin resigns from Citigroup
• Credit Suisse cautious on Citigroup due to regulatory hurdles
• Citigroup and Redecard: shedding international assets

Citigroup has been losing tens of billions of dollars over the past two years as the financial crisis has unfolded. If one considers the government capital that Citi has not paid back, the bank is clearly the weakest of the four largest legacy banking behemoths in the United States. Earnings results this year demonstrate that their raw earnings power is no match for the likes of JPMorgan Chase or Wells Fargo. Moreover, their capital base has been impaired, causing them to have to sell assets, reducing their earnings power further still.

Unless something miraculous happens over the next few years, they are not going back to the glory days of $20 billion yearly net income. That’s why their mountainous $38 billion deferred tax asset is a problem.

Reuters explains:

Citigroup has a roughly $38 billion deferred tax asset, which essentially represents expected cash flow from future tax benefits. Accounting expert Robert Willens said on a conference call late last month that he expects the bank to write the asset down by about $10 billion in the fourth quarter. That would represent about 7 percent of the bank’s net worth as measured by the reported value of the company’s shareholder equity.

What is going on here is a result of the fact that companies keep two sets of books – one for the taxman and one for public statements.  On the tax books, they pay more taxes upfront than we see in their public accounts (I know it sounds dodgy but I am sure a tax accountant can explain). By deferring the tax liability, companies reduce the net present value of the tax charges. Everybody wins except the taxman, right? 

Well, not exactly.  If Citigroup cannot make enough taxable income in future periods to cover these deferred tax assets, they are going to have to take a charge and write down the asset immediately. That is what Robert Willens is pointing to. If he is right, Citigroup would have $10 billion less capital as soon as Jan.1, 2010. And given they are perhaps the least well-capitalized of the stress test 19 except GMAC, that’s a problem.  It would certainly constrain their lending capacity.

But, of course, Citi officials have already come out to put any fears to rest.

"We are comfortable with the valuation," Kelly said, adding that the bank looks at its deferred tax asset at the end of each quarter. About $16 billion of the deferred tax asset must be realized by around 2016, and the rest has a much longer time frame, Kelly added.

Whew. For a second there, I was starting to think Citi needed another bailout.

By the way, Bank of America has a similar problem.  They have a huge net operating loss (NOL) carry-forward from their acquisitions of Merrill Lynch and Countrywide Financial. If BofA cannot make enough taxable income to use all of their NOLs which are now assets on their balance sheet, they too will have to take a ‘valuation allowance’ a.k.a a hit to earnings.  The net deferred tax assets at BofA (incl. NOLs) were $19.6 billion according to their 3Q 10-Q filing.  See the note below (click to expand).

As you would suspect, “The Corporation has concluded that no valuation allowance is required.”

Source

Bank of America SEC filings – BofA website

Related posts:

• Credit Suisse cautious on Citigroup due to regulatory hurdles
• How well capitalized is Citigroup?
• JPMorgan has record revenue and $2.7 billion in profit
• Is Citi being forced to downsize by Obama?
• Are Citi and BofA gaming the Geithner Plan already?

Bond insurer Ambac Financial has warned bankruptcy is a distinct possibility, sending its shares plummeting more than 30% today.

What is intriguing about this pending bankruptcy is how this company escaped bankruptcy in 2008, was downgraded continually in 2009, yet just reported billions in profit 5 days ago. Now it warns of bankruptcy? 

This story also is related to municipal bonds.

Rewind to July of last year and Ambac was headed to zero fast after having been downgraded by S&P the month before. Basically, their business model of using a AAA rating to guarantee bonds (a sort of credit default insurance) was rendered non-viable by the credit crunch.

But in November, Ambac was able to forestall the inevitable. On November 19th, MarketWatch reported:

Ambac said late Wednesday that it commuted, or tore up, roughly $3.5 billion worth of guarantees on complex mortgage-related vehicles known as collateralized debt obligations. The company’s main bond insurance unit paid counterparties $1 billion in cash to settle the contracts.

The deal will improve the capital position of the bond insurance unit for rating agencies, Ambac said.

Later the insurance subsidiary eliminated its dividend to the parent company.

When the company rejected an unsolicited offer by Warren Buffett to reinsure $800 billion in municipal bonds insured by Ambac and MBIA in December, this was generally seen as a sign of strength. But, the company was holding on by a thread.

Then came the potential for a big bailout in March. MarketWatch again:

Life and bond insurers soared after the announcement Monday that they will be eligible to participate in the Treasury Department’s Public Private Partnership Investment Program.

Bond insurer Ambac Financial Group is one that will investigate Treasury’s offer to backstop a market for securities it holds in its investments, said Ambac spokeswoman Vandana Sharma.

The public-private program will use $75 billion to $100 billion in money from the Troubled Asset Relief Program called TARP to generate $500 billion in purchasing power to buy legacy assets held by investors, with a government backstop encouraging private sector investors to purchase the assets.

"A broad array of investors are expected to participate in the Legacy Loans Program," the Treasury said in a fact sheet it provided Monday. "The participation of individual investors, pension plans, insurance companies and other long-term investors is particularly encouraged."

Up to now, insurers such as Ambac have unsuccessfully lobbied for inclusion in government programs that have offered capital to help make up for losses tied to mortgage loans.

Ambac did not get TARP money.  All the while, the two companies MBIA and Ambac continued to be downgraded by the ratings agencies – dead men walking.

But just five days ago, Housing Wire reported the following:

Bond insurer Ambac Financial Group posted net income of $2.2bn, or $7.58 per share, in Q309, compared with a net loss of $2.4bn in the year-ago quarter.

Quarterly results were impacted by unrealized mark-to-market gains in the New York City-based financial services and insurance firm’s credit derivatives portfolio and gains from Q309 reinsurance cancellations.

The firm experienced a positive $2.1bn change in fair value of credit derivatives, driven by the adjustment made under Financial Accounting Standard (FAS) 157 relating to Ambac’s widening credit spread…

“We continue to make progress in de-risking the balance sheet via negotiated reinsurance buy-backs, CDO of ABS commutations, settlements related to defaulted RMBS transactions as well as expanded analysis of expected recoveries relating to RMBS representation and warranty breaches,” said president and CEO David Wallis.

Nice, right?  Well, now they could be filing for bankruptcy.

The muni connection comes from the fact that Ambac was a large guarantor in the municipal bond market. Witness this ill-timed article from Fortune in February 2008:

Forget what you may have read in the newspaper about state budget problems or bond insurer meltdowns. This is a perfect time to be buying municipal bonds. The economy is slowing, the Federal Reserve is poised for more interest rate cuts (boosting bond prices), and a Democratic win in November would probably lead to higher taxes on the rich, thereby enhancing munis’ tax advantages. Throw in munis’ microscopic default rates, and you’ve got an ideal landing spot for investors weary of the stock market roller coaster…

As we said, the default rate on munis is minuscule, especially for GOs, water-and-sewer revenue bonds, and the other plain-vanilla offerings that make up the majority of the muni market. Even triple-B-rated munis – the lowest rung of investment grade – have a default rate of only 0.06 percent…

Over the years, this incongruity has fueled the growth of Ambac (ABK), MBIA (MBI) and other bond insurance companies. By selling states and cities insurance that turns triple-B and single-A bond issues into triple-A’s – reducing government borrowing costs in the process – the bond insurers manage to pocket much of the extra yield that would otherwise go to investors. Best of all, bond insurers rarely had to pay claims, certainly not on the plain-vanilla GOs and water-and-sewer bonds. "In my opinion," says Paul Disdier, who oversees the municipal bond fund division at Dreyfus, "the worst thing to happen to the muni market is the spread of bond insurance."

I’m sure you know that the spread is actually not the worst thing here. It’s that risk was being underpriced. That’s why Ambac is hitting the wall. And so it is again.

By the way, the Fed and the Treasury are on record as being leery of guaranteeing anything in the municipal bond market. So, with Ambac crumbling and no Federal government backstop, there is no safety net for bad investments in munis. Caveat Emptor.

Update: To be clear – Ambac Financial, the parent entity is filing for bankruptcy. But Ambac Assurance, which is the insurance subsidiary is not. Nevertheless, Ambac Assurance still has a Caa2/CC rating and we should anticipate it will be soon to be out of business.

Update 2: see the following Bloomberg article for detailed information on the potential bankruptcy filing and associated market action: Ambac, MBIA Tumble as Losses May Overwhelm Bond Insurers.

Related posts:

• MBIA and Ambac sued by LA
• MBIA, Ambac, $1 Trillion of Debt, Lose S&P AAA Rating
• Ambac is going to zero fast
• The coming collapse of the municipal bond market
• AIG: looking to raise $20 billion

This is pretty funny. Hat Tip Rob Johnson and New Deal 2.0.

Source

Money performed by Cypress Hill – Answers.com

What does "dollar, dollar bill, y’all" mean? – Yahoo! Answers

Related posts:

• Simon Johnson: Too big to fail is “too big to exist”
• Application for the Federal Bail Out Program, 2008-2009
• Dilbert on the asset-based economy
• Bank of America cuts its dividend
• Saturday Night Live Grades the Stress Tests

That’s how my friend Jeff described the most recent flap over a banker allegedly using religion to defend the industry.

If you haven’t caught it, Goldman Sachs CEO Lloyd Blankfein was quoted in the Sunday London Times as saying “we have a social purpose,” in referring to the banking industry. What caught everyone’s eye was the headline: “I’m doing ‘God’s work’. Meet Mr Goldman Sachs,” something sure to inflame already raw feelings against bankers worldwide. And this comes after John Varley (the CEO of the soon-to-be-considered-vampire-squid of Britain when it shows record profits) invoked religion in talking of banking – in an inappropriate defence of British banks at church.

Quite frankly, Blankfein’s comments are not what I would consider good PR for the banking industry or Goldmans in light of the recent flap over Goldmans’ Lord Griffiths’ inflammatory comments on how Britons must:

tolerate the inequality as a way to achieve greater prosperity for all.

Remember, this is the same company pejoratively labelled Government Sachs and a vampire squid.

But, what did Lloyd Blankfein actually say? Here’s the quote from the Times.

Luckily for him and his firm, he’s a damn good salesman. He starts with a little humility. He understands that "people are pissed off, mad, and bent out of shape" at bankers’ actions. Goldman played its part in the meltdown that almost destroyed the global financial system. It, like most other banks, lent too much money, made its first quarterly loss for more than a decade last year and ended up taking bail-out cash from Washington. "I know I could slit my wrists and people would cheer," he says. But then, he slowly begins to argue the case for modern banking. "We’re very important," he says, abandoning self-flagellation. "We help companies to grow by helping them to raise capital. Companies that grow create wealth. This, in turn, allows people to have jobs that create more growth and more wealth. It’s a virtuous cycle." To drive home his point, he makes a remarkably bold claim. "We have a social purpose."

Do you see anything in this quote about God’s work? I clicked on this article expecting to see something outrageous of the Lord Griffiths variety. I don’t. So, why is the headline pointing to these statements as ‘God’s Work?’ I think the headline is reckless and misleading. Its sole purpose is to inflame anti-Goldman sentiment. The language of the article is construed to cast Blankfein and Goldman in a negative light. This is not what I consider the best of journalism in the least.

So, let’s look at the actual merits of what was said.

• “people are pissed off, mad, and bent out of shape” – I’m glad you realize this. But paying record bonuses doesn’t sound like you understand the gravity of the situation or how pissed off people are.
• “I know I could slit my wrists and people would cheer” – exactly. So you should be as meek as a mouse right now.
• “We’re very important" – poor choice of words, my friend. See the previous statement.
• "We help companies to grow by helping them to raise capital. Companies that grow create wealth. This, in turn, allows people to have jobs that create more growth and more wealth. It’s a virtuous cycle." – YES! That’s the bloody point here. I see this as an accurate statement of the social purpose of investment banking.
• "We have a social purpose." – In fact, you do.

Later, in the same article comes the money quote:

An impish grin spreads across Blankfein’s face. Call him a fat cat who mocks the public. Call him wicked. Call him what you will. He is, he says, just a banker "doing God’s work"

This looks to be a very damning quote, doesn’t it? Three little words. What was the context here? I’d like to see this quote contextualized like the paragraph I deconstructed above.

So, how do I see this issue?  Investment banking does indeed have a social purpose. In fact, it is the one stated quite well by none other than Lloyd Blankfein. Whether bankers are fulfilling this purpose and how much they should earn for doing so are wholly different questions (see Bookstaber’s question “Why do bankers make so much money?”). But, trying to turn this statement into a polemic against banking is despicable.

As for Blankfein’s other statements, it does not seem from what has been written that he is demonstrating the necessary contrition or humility in this particular situation which is going to cast him in a favourable light. Those three words could make him infamous. Perhaps he thought he could speak on the record in his own voice and explain away the bailout followed by the record profits and bonuses. If so, he’s deluding himself – and this piece of biased journalism and the dozens of pieces in multiple languages sheepishly picking up on the ‘God’s work’ part show why.

May the Lloyd be with you. And also with you.

Sample sources

Goldman-Sachs-Chef: "Banken verrichten Gottes Werk" – Spiegel (Germany)

Banker mit Gottes Segen – tagesanzeiger (Switzerland)

Goldman Sachs boss says banks do "God’s work" – Reuters

Topman Goldman: banken doen werk van God – NRC Handelsblad (Netherlands)

Goldman Sachs boss: ‘bankers do God’s work’ – Telegraph

Related posts:

• Goldman’s need to change
• Quote of the day: Investment Bank Leverage
• Bloomberg is coming down hard on Goldman
• Banks: are mergers in the offing?
• Goldman loses $2.1 in the third quarter

Of the five, United Commercial is pretty darn big ($11.2 billion in assets)

United Commercial Bank
San Francisco, CA

As of October 23, 2009, United Commercial Bank had total assets of $11.2 billion and total deposits of approximately $7.5 billion. East West Bank paid the FDIC a premium of 1.1 percent for the right to assume all of the deposits of United Commercial Bank. In addition to assuming all of the deposits of the failed bank, East West Bank agreed to purchase approximately $10.2 billion in assets of the failed bank. As part of the purchase and assumption agreement, the FDIC transferred to East West Bank all qualified financial contracts to which United Commercial Bank was a party and those contracts remain in full force and effect.

The FDIC and East West Bank entered into a loss-share transaction on approximately $7.7 billion of United Commercial Bank’s assets.

Gateway Bank of St. Louis
St. Louis, MO

As of September 25, 2009, Gateway Bank of St. Louis had total assets of $27.7 million and total deposits of approximately $27.9 million. Central Bank of Kansas City did not pay the FDIC a premium for the deposits of Gateway Bank of St. Louis. In addition to assuming all of the deposits of the failed bank, Central Bank of Kansas City agreed to purchase essentially all of the assets.

Prosperan Bank
Oakdale, MN

As of August 31, 2009, Prosperan Bank had total assets of $199.5 million and total deposits of approximately $175.6 million. Alerus Financial, N.A. will pay the FDIC a premium of 1.02 percent to assume all of the deposits of Prosperan Bank. In addition to assuming all of the deposits of the failed bank, Alerus Financial, N.A. agreed to purchase approximately $173.9 million of the failed bank’s assets.

The FDIC and Alerus Financial, N.A. entered into a loss-share transaction on approximately $173.9 million of Prosperan Bank’s assets

Home Federal Savings Bank
Detroit, MI

As of September 24, 2009, Home Federal Savings Bank had total assets of $14.9 million and total deposits of approximately $12.8 million. Liberty Bank and Trust Company did not pay a premium to assume all of the deposits of Home Federal Savings Bank. In addition to assuming all of the deposits of the failed bank, Liberty Bank and Trust Company agreed to purchase essentially all of the assets.

United Security Bank
Sparta, GA

As of September 14, 2009, United Security Bank had total assets of $157 million and total deposits of approximately $150 million. Ameris Bank will pay the FDIC a premium of 0.36 percent to assume all of the deposits of United Security Bank. In addition to assuming all of the deposits of the failed bank, Ameris Bank agreed to purchase essentially all of the assets.

The FDIC and Ameris Bank entered into a loss-share transaction on approximately $123 million of United Security Bank’s assets.

Related posts:

• Seven banks seized by FDIC
• Three more FDIC bank seizures
• Five banks seized in FDIC Friday night special
• FDIC Friday Night Special: San Joaquin Bank, Bakersfield, California
• FDIC moves in at Great Basin Bank

I was reading Kid Dynamite’s account of the recent Treasury – Finance Blogger meeting after having read a bunch of others (see them all in Abnormal Returns’ Nov 4th links). And I was struck by his characterization of the thinking at Treasury in regards to the financial crisis. I want to highlight two points and ask the question: didn’t the Treasury plan work as designed?

I will try not to editorialize and let you draw your own conclusions based on my (hopefully neutral) narrative of their goals.

Here is point #1 I want to highlight:

The first point that caught my ear was the description of the stress tests as having been designed to restore a level of confidence in the banking system.   The STO mentioned that the focus was now on reducing the footprint of economic intervention cautiously, quickly and prudently…

a number of STO’s present in the room, who quickly banded together to clarify that no one knew the results of the stress tests before they happened, and that they were designed to restore confidence by identifying the levels of capital needed by the banks, and requiring them to raise such capital.  I said that if they wanted to restore confidence, they should require banks to mark assets to market, and depict the true financial situation.

As I read it, Treasury wanted to show that it had a credible plan to identify any capital shortfalls amongst our biggest banks and to take corrective action.  Their belief is this would restore confidence.

Here is point #2 to highlight – why the need for secrecy:

I [Kid Dynamite] mentioned that the problem was that even if we had a "Counterparty Risk Czar" who somehow managed to magically quantify the exposures of each firm (which may be quite a difficult task in itself), we’d see the same problems we saw when the government went to give out the TARP funds. The government didn’t want to "bail out" select firms (ie, BAC and CITI) because they feared that the stigma attached to such assistance would create panic and runs on the bank – so they asked a large pool of financial institutions to take the money to hide the truly sick cows.

I read this to say that Treasury feared identifying ‘loser’ institutions would have a negative impact and cause bank runs (think Washington Mutual). therefore, they had to hide the ball, so to speak.  The same philosophy is behind the Fed’s refusal to release more information to Bloomberg on the Fed’s emergency lending counterparties.

The overall gist of the strategy was that Treasury wanted to identify the weak, give them time to grow stronger, and, in so doing, allow the panic phase to subside so that corrective action could be taken in a more normal economic environment.

Wasn’t the plan wildly successful? Blogger Accrued Interest thinks so.

Now, before you give a knee-jerk response, please read the following from a post I wrote in April called “Channeling my inner Larry Summers,” which was my attempt to read the intentions of Obama and his economic team (in the voice of Larry Summers). I think it dovetails nicely with what Kid Dynamite says were the actual goals of Treasury.

the question is how do we deal with this crisis.  The first priority must be  to forestall a deflationary spiral because that induces a dead-weight loss and extracts a cost of incalculable consequences.  The best way for government to end the spiral is to temporarily increase spending or temporarily induce more private sector spending.  Is this re-flating the bubble?  No, because deflationary forces will continue to extract a price even with these measures in place.  The key is to avoid a negative feedback loop, a spiral downward, and the easiest way for government to do this is to increase spending.

But, spending alone won’t get it done.  Ultimately, we will need to increase credit availability.  Just because people are spending more, does not mean the economy will grow.  Growth depends critically on increasing credit in line with the growth of the economy.

I am not one for nationalization of banks or other coercive, non-market based mechanisms of getting lending flowing.  The concept that nationalizing banks and re-privatizing them should be a first port of call for a government imperiled by a weak banking system is contrary to the need for limited government.  What we need to do is put a number of government-assisted programs into play — cognizant of that healthy tension between limited government and necessary government — and get credit flowing this way.

Let me enumerate some mechanisms:

• First we should try bank re-capitalization.  Our first priority must be to have an adequately-capitalized banking system. Absent that, increases in lending are impossible and the system will continue to be doubted. So that’s number one. We can do this through preferred equity so that the government is senior to common equity and receives some compensation for taxpayer money.  What’s more is it limits government interference. Remember – most of these institutions are having temporary problems.  With enough capital, they can weather the storm.  There is no need for heavy-handed government interference.
• If re-capitalization proves inadequate because of depreciated legacy assets, we will need to remove those assets from banks’ balance sheets in a way that promotes price discovery, increases asset liquidity and respects the tension between government involvement and government’s limitations. The PPIP and TALF can help achieve this.
• Moreover, by allowing financial institutions to borrow with a government guarantee, we can ease the funding liquidity constraints as well.

Ultimately, the jump start from stimulus and quantitative easing will start to kick in while all of this is ongoing. The result will be a growing economy and healthier banks. Nevertheless, we should implement some stress tests on institutions to gauge how much capital each institution would need in a worst-case scenario. Those banks faring poorest will need to take remedial action as soon as possible. However, under no circumstances should we ever imply that any individual institution is insolvent. This creates doubt and during times of stress it is not the wisdom of crowds, but the panic of crowds that is on display. Doubts about one institution are likely to have knock-on effects for others creating a systemic problem. This must be avoided at all costs.

So have Geithner and his team not avoided the pitfalls and accomplished their goals?

Related posts:

• The less optimistic view of Treasury’s handling of the crisis
• Will banks exiting TARP take back their toxic waste now?
• Bank by bank breakdown of stress test results
• Ackman and Stigliz talk Stress Tests with Charlie Rose
• GMAC has been nationalized

Nils Pratley’s piece at the Guardian on RBS and Lloyds is very good.  Two quotes sum up the situation quite well.

First, in regards to Lloyds, Pratley says:

Royal Bank of Scotland’s shares down almost 20% in two days; Lloyds’s shares an oasis of tranquillity. Those market reactions tell the story of the banking bailout part 3, or part 2(b) as the government would probably prefer. Lloyds has performed a great escape, but RBS has been clobbered…

Lloyds is being forced by the European commission to surrender 4.6 percentage points of market share but will retain 25%, probably more than any bank has ever enjoyed in the UK.

This is the statistic to remember when Alistair Darling trumpets the government’s commitment to greater competition. When one institution is so big in retail banking, actions like encouraging Virgin and Tesco to enter don’t amount to much.

In regards to the horrors brought to us by Sir Fred Goodwin at RBS, Pratley has this to say:

About 10 months after Lloyds started saying the worst was over, the claim looks semi-credible. It is relatively easy to see how – in time (a critical phrase) – taxpayers could earn a profit on their Lloyds shares.

The same hope is still alive at RBS but Stephen Hester’s task is far trickier. RBS, said Lord Myners today, was the "worst managed bank this country has ever seen," a claim that is supported by the sheer scale of taxpayer support. The capital ratios have had to be inflated to unheard-of levels to absorb the losses that are expected to arrive when the toxic rubbish from the Goodwin era washes up in the next few years.

The difference between the two banks is striking and goes entirely to management of the two firms.

The full article is linked below.

A tale of two banks at RBS and Lloyds – Nils Pratley, Guardian

Related posts:

• Lloyds to raise 21 billion pounds in biggest rights issue ever
• The FDIC to get credit from banks even while banks restrict lending
• Lloyds has a decent first half
• RBS reports a record loss of 24 billion pounds
• UK: Darling confirms government to break up too big to fail banks

Lloyds are looking to avoid the embrace of government by going to existing shareholders to raise capital and sidestep the draconian break-up solution foisted upon RBS by Neelie Kroes. According to Bloomberg, this is the largest rights issue ever for a British company and equates to $34 billion.

All of this must be excruciating for Lloyds shareholders, as Lloyds was not a reckless lender during the bubble years. It was HBOS which nearly went to the wall and was subsequently foisted onto Lloyds.  At the time (late September 2008), I certainly thought the deal was in the best interest of all concerned given how little Lloyds was paying for HBOS:

The fact that government were so involved in the negotiations makes clear how important it was that this deal get done. It appears to have been the best outcome for all parties concerned: HBOS, Lloyds and Labour. The British Government has been pilloried for having squandered the good times and leading the UK into a major downturn with no room for fiscal stimulus. Both Gordon Brown and Alistair Darling should be worried about getting the sack. The last thing either they or the Labour Party needed was a failure of an institution like HBOS. HBOS was too big to fail.

The HBOS crisis was a perfect example of how liquidity concerns become intertwined with solvency issues in a time of panic. With the HBOS crisis now at an end, one wonders whether RBS will come under attack next, or whether we can breathe a sigh of relief until the next round of writedowns or share price losses. We will have to wait and see.

RBS did come under the government umbrella and both RBS and HBOS have proven major sinkholes for the UK taxpayer, with more money still coming.

What Lloyds are looking to dodge is the government’s Asset Protection Scheme, which Bloomberg estimates will cost the bank 15.6 billion pounds in fees and easily raise the government’s stake to a majority at 62 percent.

Below are the defining paragraphs of the scheme:

1.1 Under the Scheme, in return for a fee, the Treasury will provide to each participating institution protection against future credit losses on one or more portfolios of defined assets to the extent that credit losses exceed a “first loss” amount to be borne by the institution.  It is intended that the Scheme will target those asset classes most affected by current economic conditions.

1.2 The Treasury protection will cover the major part but not all of the credit losses which exceed this “first loss” amount.  Each participating institution will be required to retain a further residual exposure, which is expected to be in the region of 10 per cent. of the credit losses which exceed the “first loss” amount.  This residual exposure will provide an appropriate incentive for participating institutions to endeavour to keep losses to a minimum.

1.3 The Treasury currently expects that the fee will usually be satisfied by the issue of capital instruments of the participating institution.  These instruments are not expected to include ordinary shares, but will include a range of alternative capital instruments.  The Treasury will be open to consider other forms of fee, including cash.

Nevertheless, Lloyds are being forced to flog off assets , effectively deleverage, in order to escape the APS. Insight Investment management was sold to Bank of New York Mellon for 235 million pounds on Monday. The Intelligent Finance business, Cheltenham & Gloucester accounts and mortgages, and a number of Lloyds TSB branches in England & Wales will be gone within four years. The TSB brand is also history. No mention of plans concerning the Halifax or Bank of Scotland brand has been made.

It is unclear what kind of reception such a large rights issue will receive. Lloyds is down almost 2% in heavy trading so far today.

Sources

Lloyds to Raise $34 Billion to Avoid Control by U.K. – Bloomberg

Sale announcement of Insight by Lloyds – Lloyds TSB website

Related posts:

• RBS reports a record loss of 24 billion pounds
• Lloyds gets HBOS for a song
• Nils Pratley: A tale of two banks at RBS and Lloyds
• HBOS to raise new capital
• $467 billion in writedowns and counting

At the weekend I wrote about Alistair Darling’s about-face on breaking up to big to fail financial institutions. Apparently, this was not a case of labour changing tack and finding regulatory religion, but rather of the European Union imposing its will on the British government. The EU is also dictating policy in Germany, the Netherlands and elsewhere.

The Telegraph reports:

RBS said in a statement on Monday it was in the final stages of talks with the European Commission about "some divestments not initially contemplated" to get EU approval for the billions of pounds it has received in state aid.

Selling Citizens, which has 26,000 employees, is said to be one of the options raised by Neelie Kroes, the EU competition commissioner.

She is also said to want the sale of the Churchill, Green Flag and Direct Line insurance businesses, more than 312 RBS branches in England, Global Merchant Acquiring, a card payments processing arm, and a reduction of the investment banking operations.

And RBS shares were down as the effects of the EU’s dictates became clear for that institution. Job losses were the most negative storyline and unions are expected to resist these moves vigorously. But asset sales were also part of the equation.

The Guardian reports:

Royal Bank of Scotland’s woes deepened tonight after unions condemned 3,700 branch job cuts as "absolute madness" on the eve of an announcement of a dramatic restructuring of the bank imposed by Brussels.

RBS is tomorrow expected to admit that it is being forced by the EU to make major commitments to cut back the size of its balance sheet and sell off some of its highest profile businesses in return for more than £40bn of state aid.

The bank acknowledged for the first time today that the EU was demanding more draconian measures than it had first envisaged, driving RBS shares down sharply. They closed at 38.65p, down 8%, giving the taxpayer a paper loss on its investment which breaks even at 50.5p share.

Analysts were concerned that the new chief executive, Stephen Hester, would need to redraw his business plan which is only eight months old, and that the profits of the bank could tumble by as much as £1.5bn a result of the EU’s intervention.

As the Treasury prepared to admit it was putting another £25bn into RBS to take the taxpayer’s stake up to 84% to help it participate in the government’s toxic asset protection scheme, unions reacted angrily to the front-line job cuts.

So, far from appearing forward-looking, Labour look quite reactionary here. Not only are they having to bend to the will of Neelie Kroes in Brussels, they also are being forced to top up their stakes in the banking black hole even while job cuts are being made. This is not the sort of thing that is likely to lead to more votes at the ballot box. (By the way, why do the British media insist on always using this picture of Darling in articles. I find it pretty comical.)

The UK is not the only country coming under pressure for state subsidies (a weak form of protectionism). In the Netherlands, ING was forced to break in two and reduce its balance sheet because of the EU’s policy on subsidies. In Germany, Commerzbank (in large part because of sick child Dresdner) is also going to have to reduce the size of its balance sheet. Commerzbank reported more than 1 billion euros in losses today, a sum which was a negative surprise (thinking back to Halloween, it was more trick than treat). Expect asset sales here too. I know that Fortis and Natixis are other institutions with problems. What is the EU doing there?

The situation is very fluid right now and many details are expected to emerge in the coming days.  Expect the EU actions to put pressure on the U.S. which is also subsidizing its banks in an anti-competitive way.

Related posts:

• European banks have hands out for more capital
• European banks: still undercapitalised
• $5 trillion to go on balance sheets again?
• No one gets a bonus at Commerzbank and no dividend either
• The Germans get tough with the state banks

In a clear break with US economic policy, the UK government have decided that too big to fail is too big to exist. As a result, three large financial institutions now owned at least in part by government are to be dismantled. Moreover, talk of Tesco’s or Virgin getting the assets is yet another momentous shift in the British banking landscape.

The BBC reports:

Chancellor Alistair Darling has confirmed that Lloyds, RBS and Northern Rock will be broken up and parts sold to new entrants to the banking sector.

He said there could be three new High Street banks in the UK over the next three to four years as a result.

But the chancellor said he would only sell parts of the banks when "the time is right", to ensure taxpayers get their money back.

There is speculation that buyers might include Tesco and Virgin.

One should not understate the importance of this decision. This is a game-changing move by the UK government. One year ago, it was the U.K.’s decision to recapitalise its banks which changed the economic policy landscape. U.S. policy makers were forced to switch TARP policy from buying up dodgy assets at inflated prices to injecting capital (see my post “Recapitalising Britain” from 7 Oct 2008).

Yet again, the British are leading the way in reform. If you recall, just two weeks ago Mervyn King, the Governor of the Bank of England, made a blistering attack on government policy and advised breaking up too big to fail banks. At the time, Prime Minister Gordon Brown publicly rejected this idea.

However, it seems Labour were not as against King’s ideas as Brown’s comments suggested. The move last week by the Dutch to break up the bankassurance giant ING may have been the impetus. The Chancellor, Alistair Darling, suggested an increase in competition on Britain’s high streets was uppermost in his mind.

Mr Darling said this was the best way to ensure "proper competition and choice". He said having just "half a dozen big providers was not acceptable".

Why Bradford & Bingley was not mentioned with the other three banks under government control is unclear. Tesco’s and Virgin have been two of the more innovative financial service providers on Britain’s high streets and we should look on their ability to compete at scale as something which will shake up financial services in Britain. Tesco’s bid to compete in the banking sector is particularly noteworthy because of its enormous presence on high streets and immense customer base.

I reckon this move will put pressure on the US where the Obama Administration has been completely unwilling to break up the large banks, which are now even more dominant than before the crisis.

Related posts:

• Nils Pratley: A tale of two banks at RBS and Lloyds
• German deposit guarantee sets up a German-British row
• Irish government unveils plan to recapitalise banks
• The EU driving changes in European banking
• Einhorn: Break up too big to fail financial institutions

CIT has the approval of debtholders to file a prepackaged bankruptcy. This comes via Business Wire:

CIT Group Inc. (NYSE: CIT), a leading provider of financing to small businesses and middle market companies, today announced that, with the overwhelming support of its debtholders, the Board of Directors voted to proceed with the prepackaged plan of reorganization for CIT Group Inc. and a subsidiary that will restructure the Company’s debt and streamline its capital structure.

Importantly, none of CIT’s operating subsidiaries, including CIT Bank, a Utah state bank, will be included in the filings. As a result, all operating entities are expected to continue normal operations during the pendency of the cases.

All classes voted to accept the prepackaged plan and all were substantially in excess of the required thresholds for a successful vote. Approximately 85% of the Company’s eligible debt participated in the solicitation, and nearly 90% of those participating supported the prepackaged plan of reorganization.

Similarly, approximately 90% of the number of debtholders voting, both large and small, cast affirmative votes for the prepackaged plan. The conditions for consummating the exchange offers were not met.

Accordingly, CIT’s Board of Directors approved the Company to proceed with the voluntary filings for CIT Group Inc. and CIT Group Funding Company of Delaware LLC with the U.S. Bankruptcy Court for the Southern District of New York (“the Court”).

Due to the overwhelming and broad support from its debtholders, the Company is asking the Court for a quick confirmation of the approved prepackaged plan. Under the plan, CIT expects to reduce total debt by approximately $10 billion, significantly reduce its liquidity needs over the next three years, enhance its capital ratios and accelerate its return to profitability.

“The decision to proceed with our plan of reorganization will allow CIT to continue to provide funding to our small business and middle market customers, two sectors that remain vitally important to the U.S. economy,” said Jeffrey M. Peek, Chairman and CEO. “We are enormously appreciative of the extraordinary support we have received from our many constituencies. This market-based solution allows CIT to enter into the reorganization process well-prepared and positioned for a swift emergence. I want to thank our customers for their support and express my gratitude to our employees whose dedication and hard work are crucial to the future of CIT. We also acknowledge our constructive working relationship with our regulators and look forward to their continued guidance as we move through this process.”

For more than 100 years, CIT has provided much needed capital to small business and middle market customers. These two sectors play a vital role in the U.S. economy and in overall employment and job creation, representing more than 90 million employees.

Related posts:

• Obama Team considering a pre-pack Auto bankruptcy
• GM gets the green light on its section 363 bankruptcy
• The case of the dissident Chrysler bondholders
• Is the GM section 363 bankruptcy plan really a stealth re-organization plan?
• CIT: $3 Billion Credit Facility and Recap Plan

And you thought the bailouts were over and market discipline might be restored.  Not a chance – the bailouts will continue, come hell or high water. The latest demonstration of this is GMAC, where the government will now be majority owner. GMAC has officially been nationalized. Now the government is running auto financing in addition to running the companies making the cars.

Below is a quote from the Financial Times. Notice the parts I have bolded.

GMAC, the car financing company, is set to receive up to $5.6bn in a new capital injection from the Treasury, filling a hole identified in the “stress tests” earlier this year and paving the way for the government to become the majority shareholder.

The company, formerly the financing arm of General Motors, was one of 19 institutions to submit to a capital adequacy programme led by the Federal Reserve and completed in May. That determined that GMAC had a shortfall, which will now be provided by the government in the form of preferred equity, according to two people familiar with the situation.

As widely expected, GMAC has been unable to raise the necessary capital in the market and the company – which will take on fresh lending responsibilities when it merges with Chrysler Financial – was seen as vital to the government-led restructuring of the US automotive industry and deserving of more funds from the $700bn troubled asset relief programme.

“When we laid out the stress tests, we expressly said that some additional Tarp capital may be needed given the severity of the downturn – this capital need is not new information,” said an administration official.

“But the transparency brought about by the stress tests allowed all other institutions to raise the capital required by the stress tests to ensure these firms could withstand a more severe economic scenario than anticipated,” the official said.

What you should be reading from this statement is the following:

• All the firms identified as lacking capital under the stress tests were given time to raise funds in the capital market to meet the shortfall.
• Some firms did meet the shortfall and they are now free to do as they please.
• Others have not and we the government are now going to take a more muscular approach in dealing with them.
• GMAC is the first public example of our flexing our muscles.
• But there surely are/will be other examples; some may already be happening in secret.

If the US government is going to throw its weight around to deal with financial firms short of capital, I would personally prefer they try a process which allows these firms to fail whereby equity and debt holders suffer consequences that are consistent with taking market risk.  Bailing out GMAC is a moral hazard plain and simple.

But, what’s done is done. The GMAC case does, however, give a lot more credence to my view that Citigroup’s actions are being dictated by government. As I indicated when the stress tests were done in April, firms were going to get some time to raise capital and if they didn’t, the government was going to move on to Plan B (debt-for-equity swaps, nationalization, and FDIC seizure). Expect to see more indications that other financial companies with capital shortfalls are falling under the government umbrella.

Related posts:

• Bank by bank breakdown of stress test results
• BofA, Citi, Wells and GMAC biggest losers in stress test leaks
• GMAC: Loosening credit standards in the teeth of recession
• GMAC gets a helping hand
• GMAC chairman resigns effective immediately

This comes via the NYTimes:

To the Editor:

Re “Volcker’s Voice, Often Heeded, Fails to Sell a Bank Strategy” (front page, Oct. 21):

As another older banker and one who has experienced both the pre- and post-Glass-Steagall world, I would agree with Paul A. Volcker (and also Mervyn King, governor of the Bank of England) that some kind of separation between institutions that deal primarily in the capital markets and those involved in more traditional deposit-taking and working-capital finance makes sense.

This, in conjunction with more demanding capital requirements, would go a long way toward building a more robust financial sector.

John S. Reed
New York, Oct. 21, 2009

The writer is retired chairman of Citigroup.

Interesting.

Related articles

John Reed on Glass Steagall: Then & Now – Real Time Economics

Related posts:

• Was repealing Glass-Steagall the cause for the present Depression?
• How globalisation led to universal banking in America
• More on why big capital markets players are unmanageable
• Obama caves to pressure on consumer financial protection
• Is Citi being forced to downsize by Obama?

It seems that not a day goes by when you don’t hear about some asset sale in Citigroup’s far-flung empire. Of all the major too-big-to-fail institutions, it is easily the most troubled: the poster child for everything that is wrong in finance in America.

But, when President Obama’s Pay Czar Kenneth Feinberg stepped in to limit pay at Citi and six other failed institutions living off of taxpayer largesse, I noticed something that made me wonder if there was more going on than meets the eye at Citi.  I am starting to think Citigroup is being forcibly dismantled by the Obama Administration as a condition of its bailout. Could there be some bailout strings of which we are not yet aware?

Why is WFC not getting pay caps?

The thing I noticed was Wells Fargo’s name missing from Kenneth Feinberg’s list. The seven companies now subject to pay caps are: Citigroup, GMAC, American International Group, General Motors, Chrysler Group and Chrysler Financial. But, last time I checked, Wells Fargo was suckling from the government breast via a $25 billion TARP payment. What gives?

The only logical conclusion one can make is that the Obama Administration has excluded Wells Fargo because it is a healthier institution than the pay-cap seven. I agree with that assessment despite a downbeat post on Wells earnings last week. The headwinds from Wachovia are significant. But the underlying earnings power of Wells Fargo’s franchise is of a different caliber than Citigroup’s. If you saw Citi’s earnings report, it was a disaster in banking, credit cards, trading, you name it.  Everywhere, Citigroup was getting killed.

So clearly, in looking at the too big to fail banks, something quite awful is still amiss at Citi (and at BofA to a degree) that is not at Wells Fargo or JPMorgan Chase (Goldman and Morgan Stanley are not really banks).

Remember those stress tests?

The question then is: what do you (the government) do about the problems at Citi, and, to a lesser degree, Bank of America? Well, we have answer number one: pay caps for executives. And don’t think Ken Lewis left Bank of America on his accord, despite his huge golden parachute. We could be seeing some of his cash clawed back. I suspect, however, there is more for these multi-bailout offenders.

Think back to the bogus stress tests from this past spring and summer. I was pointing the finger at Citi and BofA then, saying these stress tests were just a cover-up to buy these organizations more time. If they weren’t able to make the grade in that time, more draconian action would be warranted. My logic was as follows:

The leaks about who failed the stress tests are already starting.  Who got a big fat ‘F’?  Apparently, Citi and BofA for starters.  But is that any surprise?…

See, the stress are just a scheme to make us think the Federal government is actually doing something about the under-capitalized banking system in the U.S.. In reality, the Obama Administration is just buying more time in order to let us grow our way out of this problem…

Based on what Summers is saying, the stress tests are not designed to really test anything. They are designed to make it seem like the government has things well in hand so that we can grow our way out of this crisis with the help of government stimulus and debt.

Now, Summers and Geithner are not stupid. They do have a backup plan here. As I said in a recent post, not everyone is going to pass, and indeed, some banks have failed. What does that mean? It means these banks will be given some time to come up with the capital necessary to be adequately capitalized. If they cannot do so, the government will have to explore other options. This Plan B could include debt-for-equity swaps, nationalization, and FDIC seizure.

So, Geithner and Summers are hoping FDIC-subsidized funding, toxic asset removal, fiscal stimulus, quantitative easing and all the other measures now in place will kick in and provide a recovery – and solve the banking problem. However, if the problem is not solved, there is plan B – debt-for-equity swap, nationalization, or asset seizure.

In my view, we should be going to Plan B right from the start rather than going through this jerry-rigged sham of a stress test.

Everyone beat the clock… except Cit and BofA

Now, time is up. All of the big banks raised boatloads of capital months ago. If Citi and BofA aren’t ready to hand back TARP funds yet… then they may never be. It is time for Plan B.

Remember back in May when all the big banks ‘passed’ the tests and immediately went to the capital markets for more capital after their share prices had doubled, tripled and quadrupled? That whole process was by design. We were supposed to have some ‘stress tests,’ followed by a clean bill of health, all in an effort to get those stock prices up so the banks could sell shares to shore up their capital base (the exact same thing has just happened in Sweden, by the way. See here and here).

Every bank CEO which could escape TARP, ran as fast as he could away from the government and the TARP facility. Only the truly capital-constrained remained under TARP, namely Wells, BofA and Citi. Wells is going to earn their way out of this one (which George Soros feels is exactly what should happen). Obviously, Citi and BofA are a different story. Hence the pay caps. But, I suspect there is a lot more.

Citi pullback and asset sales

Let’s concentrate on Citi because I have written a lot about their asset sales over the last year. They are the big bank which is truly deleveraging the most. They are selling everything they can to raise cash. Here’s a short list. Please tell me ones I have missed.

• Sale of German retail bank (Jul 2008)
• Morgan Stanley-Smith barney deal (Jan 2009)
• Lending halt in Denmark (Feb 2009)
• Sale of Brazilian assets (Feb 2009)
• Sale of Japanese business Nikko (May 2009)
• Potential disgorgement in Mexico (Oct 2009)

I am sure there is a lot I am missing here. Nevertheless, it is clear that the Citigroup of 2011 or 2012 will be a shadow of its former self. I suspect the same is true for Bank of America as well.

But, it strikes me as likely that these sales – at least the ones in 2009 – are being dictated by the Obama Administration. Citibank may not be selling purely because they need the capital and it makes strategic sense to do so. The coercive power of government may be standing shotgun over this.  All of the chatter between big banks and government is being done behind closed doors, so we can’t know what the true pre-conditions of the BofA or Citigroup bailouts were.

My operating assumption to date is that the government recklessly gave the banks all of the bailout money and backstops, asking next to nothing in return – all largely because they are captured by the financial services lobby. But, I would like to think there were at least some strings attached and that we are now beginning to see what those strings are.

Related posts:

• JPMorgan has record revenue and $2.7 billion in profit
• Stress tests reveal Citi and BofA need more capital, but you knew that already
• Ten big banks receive approval to repay TARP funds
• How is Citi going to deal with $38 billion in deferred tax assets?
• BofA, Citi, Wells and GMAC biggest losers in stress test leaks

In the months since I began this website, I have had some fairly harsh things to say about economic policy in the U.S., the U.K. and elsewhere. I have consistently condemned what I think is a captured government promoting an unstable financial system and a bloated financial sector. But, I have made a conscious effort to not use the word ‘bankster’ because I find it unfair and dehumanizing.  Other bloggers may disagree, but allow me to tell you why I have made the choice I have.

I look more to government and its regulators as the problem than the banks. As an example, my post “Forget about Goldman” is about why it is government at fault when Goldman Sachs gets preferential treatment.  I make much the same point in my post, “Why is Goldman allowed to game the system?”

Wall Street, indeed the financial services industry globally, employees hundreds of thousands of people. These people do not magically transform into ‘banksters’ looking to steal grandma’s pension when they start working on the Street or the City. They are no different than you or I.

The problem is government. Our policy makers are the ones who allowed easy money and lax regulation to become the status quo. They are also the ones who gain power through the political patronage of special interests as we have seen not only in banking, but in healthcare and oil and gas.  Government has created a lawless environment in which far too many individuals have committed fraud and far too few have been prosecuted. But the vast majority of people in the financial services industry are hard-working honest individuals who do not deserve to be labeled banksters.

Take the recent Washington Mutual expose that I linked to in an earlier post. There was a telling few lines involving a veteran WaMu employee that goes to the heart of the problem. It says regarding a predatory loan product at WaMu:

The White House is pushing for a new consumer regulatory agency to end these sorts of abuses, but the banking lobby and even federal banking regulators are opposed. Banks say more regulation would kill innovation.

"I hated that loan," said Mary Kay Morse, a 20-year veteran at WaMu whose job was to persuade independent brokers to make option ARM loans. "It’s just not a good loan. It wasn’t good for the borrower."

That loan affected her opinion of WaMu.

"I always felt like I worked for a really honest industry that cared for the borrowers they dealt with," she said. The corporate culture changed to: "We just want to do the most we can to make money for the bank."

How could she have changed anything when the whole force of the system was working against her instincts? Should she have quit her job, left the industry, or blown the whistle? And to the degree she participated in getting these option ARMs out to consumers, is she complicit in the whole web of deceit?

To me, these are important questions which go to the concept of “collective guilt,” where people go along to get along while crimes are being committed in their midst. What got me to thinking about this issue was a BBC Documentary podcast called “Assignment – Protecting Britain’s Children” which I listened to this morning. The issue was social services in Britain and their complicity in the horrible death of an infant called Baby P at the hands of his parents in Britain. The incident caused shock and outrage, much of which was directed at Britain’s social workers, who were seen as complicit in the death.

Some social workers felt ashamed of who they were. Others left the field. Many more felt besieged by the public as a whole. I listened to all of this thinking of the parallels to the banking industry, which was crystallized for me when I read the Washington Mutual article. I see both episodes as related to some sort of collective guilt.

I have a problem with assigning this collective guilt to so-called ‘banksters.’ Yes, we should want regulators to do their jobs and prosecute people for fraud. We have not seen any prosecutions I know about from the alleged predatory lending at Washington Mutual or Countrywide Financial. This is yet another example of the permissive and destructive regulatory environment which created this mess.

But, we should stop well short of making blanket accusations of blame. The notion that there is collective guilt here is something we need to examine and address. I, for one, do not support it. I see captured and weak government as the problem.

Blame the government for setting up a rigged and corrupt system without adequate checks and balances. Vilify regulators for encouraging fraudulent practices that ripped off and bankrupted ordinary Americans and led to a fantastic crisis. Reserve your enmity for a system which encourages greed and naked self-interest at the expense of the broader economy and financial stability. And demand action.

Don’t hate the player, hate the game.

Related posts:

• On so-called bureaucrats in Washington and the morality of capitalism
• Consolidation through merger over bankruptcy
• WaMu: Mr. Smith goes to Washington and turns predatory
• WaMu on the brink of disaster: has agreement with regulators
• Anecdotes on reckless lending at WaMu from the Seattle Times

Remember the iconic Depression-era movie “Mr. Smith Goes to Washington, in which Jimmy Stewart plays the wholesome young man in Washington out to do good? Well, Mr. Smith could just as easily have been your friendly banker at Washington Mutual. Unfortunately, Mr. Smith lost his way and turned predatory lender – and that’s the subject of the second part of a Seattle Times expose on the rise and fall of WaMu.

I posted yesterday on part one, which you should definitely read to get a sense of how WaMu culture changed. Now comes part two – also a must-read.

The lead-in says it all:

For decades, Washington Mutual lived up to its image as a staid, straight-laced Seattle institution. Its motto: "The Friend of the Family."

By the time WaMu made history last year as the nation’s biggest bank failure, it bore no resemblance to this homey image.

What few people knew was that bank executives crafted a radical new business strategy in 2003 that was intended to boost profits. The new WaMu used huge sales commissions and misleading marketing to hawk risky and overpriced loans to borrowers.

In short, WaMu became one of the nation’s biggest predatory lenders.

 

Here are a two quotes from the article:

• WaMu lured borrowers with a very low interest rate of about 1 percent. But this "teaser" rate was good only for one month. After that, the option ARM could have far higher interest rates than conventional 30-year fixed-rate loans. With each minimum payment, unpaid interest piled up. Once the debt grew too large, WaMu canceled the minimum-payment option. You could suddenly get a new bill for two or three times what you had been paying.
• "I always felt like I worked for a really honest industry that cared for the borrowers they dealt with," she said. The corporate culture changed to: "We just want to do the most we can to make money for the bank."
• The 1 percent interest rate Houk thought he was getting was only good for the first month. It had reset to 7.4 percent, nearly 3 percentage points above his previous WaMu loan. This was buried in the fine print in a sheaf of legal documents he had signed. "Who in their right mind would give up a 4.6 percent loan?" Houk said. "I felt totally duped."

The overall gist of the article (in conjunction with the previous one) is of a company whose CEO was obsessed with the share price as validation of success.  As a result, the company morphed from an institution worthy of Mr. Smith to just another profit-oriented bank. 

The key changes came in crisis after profits were devastated by the recession of 2001 and the jobless recovery afterwards. WaMu was forced into huge layoffs.

It is often said true character is shown in crisis and at WaMu it would be no different.  Instead of accepting a temporarily lower share price and reduced earnings from its bread and butter mortgage products, WaMu went all-in, wading into sub-prime and option-ARM products which were not its mainstay. That is when the predatory lending began, ultimately setting the firm up for failure.

More here.

WaMu: Hometown bank turned predatory – Seattle Times

Related posts:

• Anecdotes on reckless lending at WaMu from the Seattle Times
• WaMu on the brink of disaster: has agreement with regulators
• JP Morgan Chase buys WaMu out
• Is the new affordable FHFA loan program predatory lending?
• How refinancing helps the likes of Bank of America and Wells Fargo

I just came across a post on Zero Hedge called “An Overview Of The Fed’s Intervention In Equity Markets Via The Primary Dealer Credit Facility.” Now, that’s a mouthful. As far as I can discern, the post’s purpose is to expose alleged equities market manipulation by the Federal Reserve. However, I found the argument rather conspiratorial. And despite claims of an alleged smoking gun, there is no evidence in the post that that Federal Reserve is manipulating anything except interest rates. And the Fed made clear that that was what it intended to do.

Let me break down the argument made by Zero Hedge’s Tyler Durden and give a few remarks of my own on how I read the situation.

The junking of the Fed’s balance sheet

In March 2008, the Federal Reserve established the Primary Dealer Credit Facility (PDCF) to provide liquidity to the financial sector after Bear Stearns collapsed. Overnight funding had become a key source of liquidity for banks looking for cheap money (short-term rates are lower than long-term rates).

But when crisis hit, the liquidity in overnight interbank markets dried up leading to collapse at Northern Rock in October 2007 and then Bear Stearns in March 2008, institutions which were recklessly overexposed to overnight funding. This was a market failure. The Federal Reserve, therefore, stepped forward, effectively taking the entire wholesale banking market onto its balance sheet. That is what all of the Fed’s liquidity provisions are about.

The problem most of us have with this and similar facilities is the PDCF’s collateral terms. In the past the Fed accepted treasuries. Now it was accepting a lot more (including some so-called toxic assets):

The PDCF will provide overnight funding to primary dealers in exchange for a specified range of collateral, including all collateral eligible for tri-party repurchase agreements arranged by the Federal Reserve Bank of New York, as well as all investment-grade corporate securities, municipal securities, mortgage-backed securities and asset-backed securities for which a price is available.

By April 2008, when David Einhorn questioned Lehman’s earnings report, people were asking if they were going the way of Bear Stearns (see my June 2008 post “Is Lehman the next Bear Stearns?”). When Lehman did collapse, acceptable collateral expanded. In some instances it included equities as well. The Fed’s press release expanding collateral said:

The collateral eligible to be pledged at the Primary Dealer Credit Facility (PDCF) has been broadened to closely match the types of collateral that can be pledged in the tri-party repo systems of the two major clearing banks. Previously, PDCF collateral had been limited to investment-grade debt securities. The collateral for the Term Securities Lending Facility (TSLF) also has been expanded; eligible collateral for Schedule 2 auctions will now include all investment-grade debt securities. Previously, only Treasury securities, agency securities, and AAA-rated mortgage-backed and asset-backed securities could be pledged.

You’ll notice nowhere in the press release does one see the term equities. This is obviously by design because the Fed was under fire for bloating its balance sheet with junk. This process – what I call qualitative easing – was meant to be opaque.

With the panic now over, things have settled down and these facilities are likely to end. The Fed is issuing its own research to give intellectual cover to these activities. But, outrage remains nonetheless. The Fed’s own Charles Plosser, the President of the Philadelphia Fed, has said he wants to see qualitative easing end sooner rather than later. And Bloomberg News is suing the Federal Reserve under the Freedom of Information Act to reveal who it is lending money to against this dubious collateral.

That sums things up in a nutshell.  The key to note here is that the PDCF is an overnight lending facility, the TSLF is a 28-day lending facility and another program, the TALF, is a third longer-term lending facility I haven’t discussed. (See more on the TALF here and why it is a bailout).

Tyler Durden’s beef: the Plunge Protection Team

Tyler’s history of events in his post is largely consistent with what I just presented. Where his history diverges from mine is when he goes into the section headed “Implications,” saying “the Federal Reserve has now managed to singlehandedly take over the entire capital market.” At some point, he goes as far as to say:

The bolded text is all you need to know to find the smoking gun for any and all allegations of "plunge protection" or however one wishes to frame the invisible market bid.

Those are pretty strong words and I believe these claims are unsubstantiated in the post.  Why not leave it at the lesser claim that the Federal Reserve is running a loose monetary policy that encourages excessive risk – something that, while subject to interpretation, is a valid criticism?

Posts like this are exactly why I expressed concern when Bloomberg fecklessly expunged a Tyler Durden interview in August amid media hoopla over his identity:

Zero Hedge is a site replete with copious information on finance and the economy and is often a necessary voice of scepticism in the blogosphere that keeps the mainstream media honest.  We need outlets like that.  And Tyler was on Bloomberg Radio in the first place because he has something to say that is different, interesting and adds value. However, the hyperbole, tone, anonymity and confusion as to which writer is using which pseudonym at Zero Hedge has long become a liability which reduces the credibility of the site.

The claim of equity market manipulation strikes me as hyperbole.  There is no smoking gun whatsoever. It is a theory that I don’t buy into and that is not substantiated by the evidence in the post. Otherwise, Tyler and I are on exactly the same page.

I do have a few other points of disagreement.

• Why talk about the Primary Dealer Credit Facility when it is an overnight facility? The haircut is usually reset daily. How much manipulating can the Federal Reserve really do with an overnight facility? As I see it, the real problem with the Fed’s balance sheet is the loans under longer-term facilities like the TALF.
• What about the haircut on other asset classes, namely investment-grade and non-investment grade asset-backed securities and collateralized debt obligations. Forget about the plunge protection team conspiracy. To my mind, this is the real story here. The Fed says it accepts only securities “for which a price is available” as collateral. Is that really true? I am sceptical, one reason I would like to see who is getting these loans and what kind of collateral they are using.

Somehow you get the feeling there is a reason these facilities are still around, namely that some institutions need them because their capital base is so impaired right now that they would fail without the Fed taking those toxic assets off their hands.

In the end, Charles Plosser, Tyler Durden and I all agree: the Fed needs to end these programs as soon as possible.

Expect more on this issue soon via Marshall Auerback.

Update: This phrase, "PDCF usage declined, reaching zero in mid-May 2009," suggests the PDCF is not being used to goose equities. The quote comes from page seven of the following PDF document at the New York Fed from August: "The Federal Reserve’s Primary Dealer Credit Facility."

Related posts:

• Will banks exiting TARP take back their toxic waste now?
• TALF: A bailout if one reads the fine print
• A few words from a reader on TALF mechanics
• Understand the Fed’s balance sheet
• Bloomberg News sues the Fed under Freedom of Information Act

Source

Stuart Carlson – Uclick

Related posts:

• The failure to address the looming too-big-to-fail issue
• Einhorn: Break up too big to fail financial institutions
• Too big to fail?
• Greenspan: “If they’re too big to fail, they’re too big”
• Regional banks: Zions falls