Here's the link again for the failed banks casualty list with the IRA forensics reports.
http://us1.irabankratings.com/pub/Forensic.asp
Tuesday, April 27, 2010
After Bastille Day: Is There a Future for Big Banking?
As bank reform continues to grind through Congress something sorely lacking so far is concentration on safely managing down "points of risk" from Too Big Too Fail business models. We are awash in anger but remain devoid of constructive action. Perhaps it's because finding better basis for the role that big banks play in the U.S. economy is so important that we are paralyzed? And in this I'm including both the government and industrial side of the fencing. We all know this is the next step in the evolving theater so why aren't we infusing this latest round of legislation with constructive guidance and authorization to put the U.S. on a path to a solution? Possibly because we need someone to define a better mousetrap. Here's my stab at thinking about what that might be.
I've been observing with great interest the Johnson and Kwak hypothesis about limiting maximum bank size as a function of risk to U.S. Gross Domestic Product (GDP). The thesis is that we need to somehow cap TBTF exposure so that it's no more than 4% per business entity. It's an intriguing thought that causes me to wonder - as many other people are - about how one might go about slicing up the population of TBTF's to achieve this in a way that does not trigger unwanted side effects to the remainder of the economy in the process.
Over the years IRA has piled up mountains of data on banks and I've designed tools to support all manner of what-if modeling for acquisitions and divestitures. Some of these tools were used to confirm that the objectives of the Move Your Money initiative would indeed be positive contributors to the economy before we committed to donating our support to this cause. The tenets of building solutions strategies that are stable and achievable are central to my own comfort zone going all the way back to my Cold War days as a strategic military analyst. These cautions apply even more so when it comes to turning screws on the nuclear devices of finance, the TBTFs.
So the thought hit me that it might be interesting to ponder the stoichiometry - the math behind the chemistry - of the TBTF rebalancing issue. Butchering mastodon into chewable portions along logical lines turns out to be a rather complex process of avoiding unintended consequences. It's clear that doing careful impact analysis on things like regional competitiveness and market share up and down the national to local strata of the economy is critical. We do not want "machete-scale" TBTF action at the high end to cause undue damage to other parts of the banking and finance system.
For instance, parametrically slicing any one of the big banks is probably a combination of separating lines of business, dividing operating geographies and in some cases further dividing share within over dominated specific markets. The appropriate sizes and lines of business combinations are in turn driven by the landscape of incumbent competitors, large and small as well as healthy and stressed, within the affected sub-markets. Because we still do want to improve economic system efficiency not degrade it, there remains an overarching need to preserve whatever economies of scale and technology leverage have been gained from these big banks' combined corporate learning curves.
While the populist thinking is to send these banks to the gallows, that's not necessarily the safest or even achievable approach to furthering long run U.S. economic stability. Note that one does not necessarily need to legally slice up the institution to accomplish many of these risk management objectives. In fact, in some cases, it might be strategically counter-productive, causing a disastrous series of "knee jerk" responses further destabilizing the system. What's important to consider here is what's in the best "national interest".
As the nation ponders bank reform, I suggest that opening a line of discussion about a series of stringent rules imposed on banks that are either over a certain size or if they engage in certain combinations of lines of business. Such a discussion would say that they must set up set up certain new "walls" between segments of their business and run them as silos might be enough to bring some aspects of net risk to GDP per institution into better alignment. In other aspects of the process, forcing the creation of true arms length separations might be more appropriate.
I also believe that both government and banking need to be exploring this, if not together, then certainly in parallel. TBTF banks can make it proactive corporate policy to set up internal controls so that no single silo within their business can generate a "bail out" triggering risk. Banks within a certain exposure class can do the right thing and elect to disclose more transparent data so their combined systemic risk exposures can be tracked by both regulators and markets to emphasize promoting - as opposed to hiding - earlier warning and avoidance of future broad crisis conditions. Just like we did with things like Sarbanes-Oxley give them a fixed number of years to change, instruct the regulators to track the changes and adjust the regulations during that period to take advantage of what's learned during the process, then make the resulting more stable rules mandatory. Anyone who resists the tide? That's what liquidation is for. Now you've got a true carrot and stick enforcement strategy with a specific and actionable set of objectives. Better mouse trap.
Only in this way can government once again begin to operate as a guiding hand instead of a slapping one. If we don't do this we're going to break something. This is industrial engineering on a grand scale no less far reaching other great things in America's history. It cannot be done by the seat of one's pants or the smell of one's nose. But it can be done.
I've been observing with great interest the Johnson and Kwak hypothesis about limiting maximum bank size as a function of risk to U.S. Gross Domestic Product (GDP). The thesis is that we need to somehow cap TBTF exposure so that it's no more than 4% per business entity. It's an intriguing thought that causes me to wonder - as many other people are - about how one might go about slicing up the population of TBTF's to achieve this in a way that does not trigger unwanted side effects to the remainder of the economy in the process.
Over the years IRA has piled up mountains of data on banks and I've designed tools to support all manner of what-if modeling for acquisitions and divestitures. Some of these tools were used to confirm that the objectives of the Move Your Money initiative would indeed be positive contributors to the economy before we committed to donating our support to this cause. The tenets of building solutions strategies that are stable and achievable are central to my own comfort zone going all the way back to my Cold War days as a strategic military analyst. These cautions apply even more so when it comes to turning screws on the nuclear devices of finance, the TBTFs.
So the thought hit me that it might be interesting to ponder the stoichiometry - the math behind the chemistry - of the TBTF rebalancing issue. Butchering mastodon into chewable portions along logical lines turns out to be a rather complex process of avoiding unintended consequences. It's clear that doing careful impact analysis on things like regional competitiveness and market share up and down the national to local strata of the economy is critical. We do not want "machete-scale" TBTF action at the high end to cause undue damage to other parts of the banking and finance system.
For instance, parametrically slicing any one of the big banks is probably a combination of separating lines of business, dividing operating geographies and in some cases further dividing share within over dominated specific markets. The appropriate sizes and lines of business combinations are in turn driven by the landscape of incumbent competitors, large and small as well as healthy and stressed, within the affected sub-markets. Because we still do want to improve economic system efficiency not degrade it, there remains an overarching need to preserve whatever economies of scale and technology leverage have been gained from these big banks' combined corporate learning curves.
While the populist thinking is to send these banks to the gallows, that's not necessarily the safest or even achievable approach to furthering long run U.S. economic stability. Note that one does not necessarily need to legally slice up the institution to accomplish many of these risk management objectives. In fact, in some cases, it might be strategically counter-productive, causing a disastrous series of "knee jerk" responses further destabilizing the system. What's important to consider here is what's in the best "national interest".
As the nation ponders bank reform, I suggest that opening a line of discussion about a series of stringent rules imposed on banks that are either over a certain size or if they engage in certain combinations of lines of business. Such a discussion would say that they must set up set up certain new "walls" between segments of their business and run them as silos might be enough to bring some aspects of net risk to GDP per institution into better alignment. In other aspects of the process, forcing the creation of true arms length separations might be more appropriate.
I also believe that both government and banking need to be exploring this, if not together, then certainly in parallel. TBTF banks can make it proactive corporate policy to set up internal controls so that no single silo within their business can generate a "bail out" triggering risk. Banks within a certain exposure class can do the right thing and elect to disclose more transparent data so their combined systemic risk exposures can be tracked by both regulators and markets to emphasize promoting - as opposed to hiding - earlier warning and avoidance of future broad crisis conditions. Just like we did with things like Sarbanes-Oxley give them a fixed number of years to change, instruct the regulators to track the changes and adjust the regulations during that period to take advantage of what's learned during the process, then make the resulting more stable rules mandatory. Anyone who resists the tide? That's what liquidation is for. Now you've got a true carrot and stick enforcement strategy with a specific and actionable set of objectives. Better mouse trap.
Only in this way can government once again begin to operate as a guiding hand instead of a slapping one. If we don't do this we're going to break something. This is industrial engineering on a grand scale no less far reaching other great things in America's history. It cannot be done by the seat of one's pants or the smell of one's nose. But it can be done.
Investment Banking and California's Municipal Bonds
California State Treasurer Bill Lockyer is a man with a lot of questions. On March 29, 2010 his office sent letters to Bank of America Merrill Lynch, Barclays, Citigroup, Goldman Sachs, JP Morgan and Morgan Stanley asking about their Credit Default Swap practices. In his letter, he expressed worries that these firms - who are hired to market California's General Obligation (GO) bonds and also sell many other municipal debt issuances across the United States -- also participate in the credit default swap (CDS) business of betting against these bonds.
Mr. Lockyer notes that the State of California has never defaulted on its' obligations, he asked each bank to explain why they both sell for the State on one hand and bet against the State with the other. Responses were due back by April 12, 2010 and the State of California posted all of the responses on the Treasurer's website at this URL http://www.treasurer.ca.gov/cds/index.asp.
Why is there a market in California defaults? Basically an opportunity for arbitrage - what I like to call a mathematical gap between reality and financial modeling - exists. In an article published by Bloomberg News on April 19 on L.A. Unified's latest bond issuance, they note that California has "the lowest-rated U.S. state, is ranked Baa1 by Moody's, three steps above non-investment grade, and A- by S&P, four levels above." Bookies call this the "spread" and so does Wall Street.
The language of the banks responses to California are steeped in the murky language of finance but translated into English the banks say the answer is because there's money to be made playing both sides of the street. In the finance business it's acceptable for institutions to happily take fees and commissions both on the "sell side" as they market California's debt to primary buyers and on the "buy side" making markets - that means promoting business - for people betting against that debt using, among other things, CDS. Of the banks asked, the response by Goldman Sachs was the most direct.
They explained that working both sides is fine and dandy because a "Chinese Wall" separates the two sides of their activities. The message is that California - or any municipality - is a client only of the sell-side. California is not a client of the buy-side on the other side of the "Chinese Wall. That's some other "client" in need of insurance because the rating agencies say your State isn't a risk free investment. In effect, they take the business position that the job of a Wall Street middleman is to make as much for the house from both business channels. The other banks admit they do this too though the demeanor of their letters seem somewhat less ebullient probably remembering that there's money to be made on the sell side.
The letters tell California State Treasurer Lockyer that CDS is actually a good thing because someone buying insurance on the predicted mathematical default probability somehow means they are creating a bigger market to buy more of it. Huh? That's what the letters say. The common theme says because someone buying California GO bonds can also buys CDS protection they can lever up and buy more GO bonds. They've hedged their position against California defaulting on its' debts even though it never has. Remembering that their sell-side services business is also lucrative, they also say that California's bonds are among the most desirable on the planet. This brings up two questions. One, are you sure that Chinese Wall is sound proof? And two, why do you need default insurance on bonds that don't default again?
Citigroup, one of California's staunchest sellers of tax-exempt municipal issuances, did note with what I felt was a hint of sympathetic frustration in their response that they thought the buy-side hype about California's so called modeled default spreads has been overblown and at times out of control. Insurance is about selling perceived risk even if that perception is purely mathematical. So maybe we need to ask if, just as people wonder if some ratings were pushed up to help sell certain types of now toxic securities, might there also be a need to see if we need to weed out systemic pressures to push risk spreads on CDS arbitrage?
If your head isn't hurting too badly yet read on. It gets weirder.
On February 17, 2009, President Barack Obama signed the American Recovery and Reinvestment (ARR) Act. Part of this stimulus package created something called the Build America Bonds program known in finance circles as BAB's. Most municipal bonds are tax-exempt financial instruments. BAB's aren't. They are federally subsidized taxable bonds sharing some of the characteristics of corporate bonds.
BAB's opened a door for taxable bond investors, who had previously not been as active in this area, to become active speculating on municipals. In case you haven't figured it out by now the finance universe consists of micro-communities that get along about as well as the bi-polar opposites of the U.S. middle-class, Progressives and Tea Partiers. Taxable bond investors are used to working with corporate bonds. Unlike sovereign debt, corporations carry tangible default risks and corporate bond investors live by the motto that it's prudent to take on insurance to hedge their positions. So what happens when these people come to play in the municipal bonds sector?
Their deeply ingrained habits about the "investment tripod" of position, hedge and financing will begin to alter the market for municipal bonds. Corporate bond CDS spreads are based on the perceived problems of the company. Anything and everything imaginable is fair game for arguing what the spread should be. And these folks can be a mite jittery. Can Municipal BAB's be any less risky than a heavily government subsidized entity like General Motors? And so California's legendary polar politics, budget woes and legislative gridlock become the shrapnel far outweighing the payment history tapes.
Reading their letters, all of the respondents noted that they weren't quite sure what this means. Alignments of unsteadiness like that are significant in finance. BAB's are new, a very recent invention on the Obama Administration's watch. All of them were careful to assure California that this won't affect demand for the State's General Obligation bonds. But the letters also said the CDS desks of these institutions fully intend to continue to make markets from this new source of transaction clients interested in purchasing CDS insurance on things like BAB's. They also indicated the possibility that the CDS' written on these BAB's may result in an uptick in both rational and irrational analysis of municipal issuer default quality. That could make all municipal bonds harder to sell. Given that the credo of charge what the market will bear is almost irresistible to Wall Street, one needs to ask if the law of unintended consequences just manufactured another future systemic challenge to deal with.
One additional note, the statutory issuance window for BAB's ends in January, 2011. However, other federally subsidized taxable bond programs such as the Qualified School Construction Bond (QSCB) program authorized under the very recent Hiring Incentives to Restore Employment Act also exist. So it's not like these things are going to disappear. Per the Bloomberg article mentioned earlier, QSCB's trade more thinly than BAB's so the pressure to help them liquefy is even stronger.
My point is that finance is never quite as simple as calling for solutions one can make with a machete. Bill Lockyer's stack of letters deserves a broader reading. They are a canvas to learn a little more about the perturbations we make to the very complex system that is the U.S. economy.
Thanks to Tom Petruno from the L.A. Times for pointing me at the letters.
Mr. Lockyer notes that the State of California has never defaulted on its' obligations, he asked each bank to explain why they both sell for the State on one hand and bet against the State with the other. Responses were due back by April 12, 2010 and the State of California posted all of the responses on the Treasurer's website at this URL http://www.treasurer.ca.gov/cds/index.asp.
Why is there a market in California defaults? Basically an opportunity for arbitrage - what I like to call a mathematical gap between reality and financial modeling - exists. In an article published by Bloomberg News on April 19 on L.A. Unified's latest bond issuance, they note that California has "the lowest-rated U.S. state, is ranked Baa1 by Moody's, three steps above non-investment grade, and A- by S&P, four levels above." Bookies call this the "spread" and so does Wall Street.
The language of the banks responses to California are steeped in the murky language of finance but translated into English the banks say the answer is because there's money to be made playing both sides of the street. In the finance business it's acceptable for institutions to happily take fees and commissions both on the "sell side" as they market California's debt to primary buyers and on the "buy side" making markets - that means promoting business - for people betting against that debt using, among other things, CDS. Of the banks asked, the response by Goldman Sachs was the most direct.
They explained that working both sides is fine and dandy because a "Chinese Wall" separates the two sides of their activities. The message is that California - or any municipality - is a client only of the sell-side. California is not a client of the buy-side on the other side of the "Chinese Wall. That's some other "client" in need of insurance because the rating agencies say your State isn't a risk free investment. In effect, they take the business position that the job of a Wall Street middleman is to make as much for the house from both business channels. The other banks admit they do this too though the demeanor of their letters seem somewhat less ebullient probably remembering that there's money to be made on the sell side.
The letters tell California State Treasurer Lockyer that CDS is actually a good thing because someone buying insurance on the predicted mathematical default probability somehow means they are creating a bigger market to buy more of it. Huh? That's what the letters say. The common theme says because someone buying California GO bonds can also buys CDS protection they can lever up and buy more GO bonds. They've hedged their position against California defaulting on its' debts even though it never has. Remembering that their sell-side services business is also lucrative, they also say that California's bonds are among the most desirable on the planet. This brings up two questions. One, are you sure that Chinese Wall is sound proof? And two, why do you need default insurance on bonds that don't default again?
Citigroup, one of California's staunchest sellers of tax-exempt municipal issuances, did note with what I felt was a hint of sympathetic frustration in their response that they thought the buy-side hype about California's so called modeled default spreads has been overblown and at times out of control. Insurance is about selling perceived risk even if that perception is purely mathematical. So maybe we need to ask if, just as people wonder if some ratings were pushed up to help sell certain types of now toxic securities, might there also be a need to see if we need to weed out systemic pressures to push risk spreads on CDS arbitrage?
If your head isn't hurting too badly yet read on. It gets weirder.
On February 17, 2009, President Barack Obama signed the American Recovery and Reinvestment (ARR) Act. Part of this stimulus package created something called the Build America Bonds program known in finance circles as BAB's. Most municipal bonds are tax-exempt financial instruments. BAB's aren't. They are federally subsidized taxable bonds sharing some of the characteristics of corporate bonds.
BAB's opened a door for taxable bond investors, who had previously not been as active in this area, to become active speculating on municipals. In case you haven't figured it out by now the finance universe consists of micro-communities that get along about as well as the bi-polar opposites of the U.S. middle-class, Progressives and Tea Partiers. Taxable bond investors are used to working with corporate bonds. Unlike sovereign debt, corporations carry tangible default risks and corporate bond investors live by the motto that it's prudent to take on insurance to hedge their positions. So what happens when these people come to play in the municipal bonds sector?
Their deeply ingrained habits about the "investment tripod" of position, hedge and financing will begin to alter the market for municipal bonds. Corporate bond CDS spreads are based on the perceived problems of the company. Anything and everything imaginable is fair game for arguing what the spread should be. And these folks can be a mite jittery. Can Municipal BAB's be any less risky than a heavily government subsidized entity like General Motors? And so California's legendary polar politics, budget woes and legislative gridlock become the shrapnel far outweighing the payment history tapes.
Reading their letters, all of the respondents noted that they weren't quite sure what this means. Alignments of unsteadiness like that are significant in finance. BAB's are new, a very recent invention on the Obama Administration's watch. All of them were careful to assure California that this won't affect demand for the State's General Obligation bonds. But the letters also said the CDS desks of these institutions fully intend to continue to make markets from this new source of transaction clients interested in purchasing CDS insurance on things like BAB's. They also indicated the possibility that the CDS' written on these BAB's may result in an uptick in both rational and irrational analysis of municipal issuer default quality. That could make all municipal bonds harder to sell. Given that the credo of charge what the market will bear is almost irresistible to Wall Street, one needs to ask if the law of unintended consequences just manufactured another future systemic challenge to deal with.
One additional note, the statutory issuance window for BAB's ends in January, 2011. However, other federally subsidized taxable bond programs such as the Qualified School Construction Bond (QSCB) program authorized under the very recent Hiring Incentives to Restore Employment Act also exist. So it's not like these things are going to disappear. Per the Bloomberg article mentioned earlier, QSCB's trade more thinly than BAB's so the pressure to help them liquefy is even stronger.
My point is that finance is never quite as simple as calling for solutions one can make with a machete. Bill Lockyer's stack of letters deserves a broader reading. They are a canvas to learn a little more about the perturbations we make to the very complex system that is the U.S. economy.
Thanks to Tom Petruno from the L.A. Times for pointing me at the letters.
Off Balance Sheet Derivatives: Show Me the Money!
It's always good to have something to ruminate on over the weekend. With bank reform being the "trill thrill" of the week, what's this derivative thing? And more important, who's got how much in play at the casinos? So print this out and ponder it with your buddies while watching that ball game.
Remember, this is all about life inside the Matrix. "It'll feel ... a little weird." Derivatives are made up transactions. Two people, each of whom thinks he or she has the brass to out model the other, agree to bet on what will happen to an arbitrary amount of money. The winner of the bet gets the difference in the outcome. The winnings or losses are leverage that helps the bank participate in more betting both on-balance sheet real investments - they call that improving liquidity - or, if they like the trader/analyst team that did it, authorization from the risk and compliance officers to do more innovating.
They call the imaginary bet the "notional balance". Because it's not real money auditors won't let you book it on a balance sheet and that's why it's tracked as an off-balance sheet line item. For you aficionados, please see form RC-L of the Call Reports. To get the bigger picture, IRA sums these amounts across the individual FDIC Certificate (CERT) units of a bank holding company (BHC) and runs a variety of calculations on these numbers. One of my personal favorite measures is the ratio of the OBS notional balance versus the balance sheet assets of just the operating bank portion of the BHC. This figure gives you an idea of how much leverage derivative activity within the bank contributes to ongoing business operations.
There's one final thing to note before flashing the stash. These families of instruments were originally meant to be back office activities that served primarily to offset market risks against things like interest rate or currency exchange rate fluctuations. In many cases they still are. This aspect of derivatives is what people mean when they say they serve a financially useful function. Many of the banks listed below can and do use derivatives for these purposes. It's the appropriateness of innovating leverage for leverage sake that accelerates systemic speculation we need to assess as we reform.
Ok here goes. What ya'll make of these?
Top 50 Banks Reporting Off Balance Sheet Derivatives Notional Balances to the FDIC as of 4Q2009(amounts in $ millions)Source: IRA Bank Monitor/FDIC
Remember, this is all about life inside the Matrix. "It'll feel ... a little weird." Derivatives are made up transactions. Two people, each of whom thinks he or she has the brass to out model the other, agree to bet on what will happen to an arbitrary amount of money. The winner of the bet gets the difference in the outcome. The winnings or losses are leverage that helps the bank participate in more betting both on-balance sheet real investments - they call that improving liquidity - or, if they like the trader/analyst team that did it, authorization from the risk and compliance officers to do more innovating.
They call the imaginary bet the "notional balance". Because it's not real money auditors won't let you book it on a balance sheet and that's why it's tracked as an off-balance sheet line item. For you aficionados, please see form RC-L of the Call Reports. To get the bigger picture, IRA sums these amounts across the individual FDIC Certificate (CERT) units of a bank holding company (BHC) and runs a variety of calculations on these numbers. One of my personal favorite measures is the ratio of the OBS notional balance versus the balance sheet assets of just the operating bank portion of the BHC. This figure gives you an idea of how much leverage derivative activity within the bank contributes to ongoing business operations.
There's one final thing to note before flashing the stash. These families of instruments were originally meant to be back office activities that served primarily to offset market risks against things like interest rate or currency exchange rate fluctuations. In many cases they still are. This aspect of derivatives is what people mean when they say they serve a financially useful function. Many of the banks listed below can and do use derivatives for these purposes. It's the appropriateness of innovating leverage for leverage sake that accelerates systemic speculation we need to assess as we reform.
Ok here goes. What ya'll make of these?
Top 50 Banks Reporting Off Balance Sheet Derivatives Notional Balances to the FDIC as of 4Q2009(amounts in $ millions)Source: IRA Bank Monitor/FDIC
| Off Balance Sheet Derivatives Notional Balance, per CALL/TFR | "Bank-Only" Assets, per CALL/TFR | Ratio of OBSDIR to CALL/TFR Assets | |
| JPMORGAN CHASE & CO. | $78,608,811 | $1,729,229 | 45.5 |
| BANK OF AMERICA CORPORATION | $44,470,772 | $1,674,099 | 26.6 |
| GOLDMAN SACHS GROUP, INC., THE | $41,597,107 | $91,050 | 456.9 |
| CITIGROUP INC. | $37,982,426 | $1,278,882 | 29.7 |
| WELLS FARGO & COMPANY | $4,193,794 | $1,187,315 | 3.5 |
| HSBC HOLDINGS PLC | $2,934,372 | $169,142 | 17.3 |
| BANK OF NEW YORK MELLON CORPORATION, THE | $1,326,055 | $178,254 | 7.4 |
| STATE STREET CORPORATION | $644,678 | $153,779 | 4.2 |
| PNC FINANCIAL SERVICES GROUP, INC., THE | $294,358 | $275,877 | 1.1 |
| SUNTRUST BANKS, INC. | $237,963 | $164,341 | 1.4 |
| NORTHERN TRUST CORPORATION | $182,241 | $83,456 | 2.2 |
| REGIONS FINANCIAL CORPORATION | $115,590 | $138,007 | 0.8 |
| KEYCORP | $100,180 | $90,195 | 1.1 |
| U.S. BANCORP | $93,875 | $282,169 | 0.3 |
| TORONTO-DOMINION BANK, THE | $86,133 | $150,102 | 0.6 |
| BB&T CORPORATION | $68,275 | $162,061 | 0.4 |
| FIFTH THIRD BANCORP | $65,733 | $112,736 | 0.6 |
| UK FINANCIAL INVESTMENTS LIMITED | $57,936 | $149,385 | 0.4 |
| CAPITAL ONE FINANCIAL CORPORATION | $48,629 | $165,351 | 0.3 |
| MORGAN STANLEY | $41,467 | $66,159 | 0.6 |
| MITSUBISHI UFJ FINANCIAL GROUP, INC. | $40,394 | $90,357 | 0.4 |
| HUNTINGTON BANCSHARES INCORPORATED | $27,219 | $51,111 | 0.5 |
| GMAC INC. | $25,915 | $55,303 | 0.5 |
| DEUTSCHE BANK AKTIENGESELLSCHAFT | $21,994 | $46,644 | 0.5 |
| BOK FINANCIAL CORPORATION | $21,053 | $25,966 | 0.8 |
| COMERICA INCORPORATED | $20,339 | $59,161 | 0.3 |
| BANK OF MONTREAL | $18,347 | $44,661 | 0.4 |
| ALLIED IRISH BANKS, P.L.C. | $17,609 | $68,768 | 0.3 |
| MARSHALL & ILSLEY CORPORATION | $17,380 | $58,361 | 0.3 |
| FIRST HORIZON NATIONAL CORPORATION | $17,379 | $25,842 | 0.7 |
| METLIFE, INC. | $15,907 | $14,107 | 1.1 |
| ZIONS BANCORPORATION | $14,781 | $52,336 | 0.3 |
| BANCO BILBAO VIZCAYA ARGENTARIA, S.A. | $14,703 | $70,131 | 0.2 |
| BNP PARIBAS | $11,472 | $73,706 | 0.2 |
| BARCLAYS PLC | $10,182 | $12,614 | 0.8 |
| PACIFIC COAST BANKERS' BANCSHARES | $6,442 | $616 | 10.5 |
| PRIVATEBANCORP, INC. | $5,863 | $12,101 | 0.5 |
| UBS AG | $5,188 | $30,174 | 0.2 |
| CIT GROUP INC. | $5,017 | $9,146 | 0.5 |
| BANCO SANTANDER, S.A. | $3,562 | $80,431 | 0.0 |
| ASSOCIATED BANC-CORP | $3,352 | $22,582 | 0.1 |
| SYNOVUS FINANCIAL CORP. | $3,306 | $34,539 | 0.1 |
| ROYAL BANK OF CANADA | $3,074 | $27,667 | 0.1 |
| LAURITZEN CORPORATION | $3,070 | $15,785 | 0.2 |
| POPULAR, INC. | $2,769 | $34,136 | 0.1 |
| CULLEN/FROST BANKERS, INC. | $2,499 | $16,344 | 0.2 |
| CITY NATIONAL CORPORATION | $2,082 | $20,749 | 0.1 |
| FIRSTMERIT CORPORATION | $1,931 | $10,522 | 0.2 |
| SOUTH FINANCIAL GROUP, INC., THE | $1,929 | $11,876 | 0.2 |
| CITIZENS REPUBLIC BANCORP, INC. | $1,889 | $11,820 | 0.2 |
Sunday, January 24, 2010
January 2010 Failed Bank Forensics
This is the list of links to IRA's failed banks forensics pages for the banks that were closed by the FDIC in January 2010. These pages are part of our ongoing studies to understand the nature and sensitivities surrounding bank risk. We share them here so other researchers can also ponder the "patterns in the noise".
Columbia River Bank - The Dalles, OR 1-22-2010
Evergreen Bank - Seattle, WA 1-22-2010
Charter Bank - Santa Fe, NM 1-22-2010
Bank of Leeton - Leeton, MO 1-22-2010
Premier American Bank - Miami, FL 1-22-2010
Town Community Bank & Trust - Antioch, IL 1-15-2010
St. Stephen State Bank - St. Stephen, MN 1-15-2010
Barnes Banking Company - Kaysville, UT 1-15-2010
Horizon Bank - Bellingham, WA 1-8-2010
Columbia River Bank - The Dalles, OR 1-22-2010
Evergreen Bank - Seattle, WA 1-22-2010
Charter Bank - Santa Fe, NM 1-22-2010
Bank of Leeton - Leeton, MO 1-22-2010
Premier American Bank - Miami, FL 1-22-2010
Town Community Bank & Trust - Antioch, IL 1-15-2010
St. Stephen State Bank - St. Stephen, MN 1-15-2010
Barnes Banking Company - Kaysville, UT 1-15-2010
Horizon Bank - Bellingham, WA 1-8-2010
Wednesday, January 13, 2010
First Bank Closure of 2010
On January 8, 2010 the FDIC failed Horizon Bank in Bellingham, Washington. Here is the forensic page for this bank.
Horizon Bank
Note from the data that the first indications this bank was in trouble was in early 2008. At the end of 2007, the bank's Federal Home Loan Bank (FHLB) advances exceeded the 15% maximum and crossed into territory the FDIC considers to be a Moral Hazard. One quarter later(in March 2008), the lending default rate went from 1.6 basis points to 26.1 basis points. A basis point is 1/100th of 1 percent.
The track record of the next two years shows things worsening progressively finally resulting in the first FDIC closure of 2010.
Horizon Bank
Note from the data that the first indications this bank was in trouble was in early 2008. At the end of 2007, the bank's Federal Home Loan Bank (FHLB) advances exceeded the 15% maximum and crossed into territory the FDIC considers to be a Moral Hazard. One quarter later(in March 2008), the lending default rate went from 1.6 basis points to 26.1 basis points. A basis point is 1/100th of 1 percent.
The track record of the next two years shows things worsening progressively finally resulting in the first FDIC closure of 2010.
Monday, December 21, 2009
Failed Banks. The December 18th Group
The FDIC failed seven (7) additional banks on December 18th. Two in California and one each in the states of Illinois, Alabama, Michigan, Florida and Georgia. The jump from an average of four per cycle to seven indicates that the build up of the FDIC's task force for bank closures has reached operational status and we can expect that the pruning of weaker banks from the system will proceed at a brisker pace in 2010.This is a good thing. Clipping off the low tail of a moribund system serves to eventually bring the overall industry up the quality tree. It's an example of a regulatory agency doing what it's supposed to. Yes I do hear those of you lamenting "if only we could do the same over in the large bank and investment bank segments of the system." True there's a lot more politics involved in arresting the risk shifting gamesmanship at the upper end of the spectrum to actually achieve some productive pruning. I'll take a little larger view though. The remainder of the banking system is being "trained up" by what the FDIC is doing and eventually this higher quality population of competitors will make their mark on the landscape. There may be some "mastodon stew" for these emerging hunter gatherers to feast on yet.
So here's the next installment of what I think will be a weekly forensic report by IRA. Your feedbck is important so let me know if you want to see more of these.
First Federal Bank of California, FSB Santa Monica, CA
Imperial Capital Bank La Jolla, CA
Independent Banker' Bank Springfield, IL
New South Federal Savings Bank Irondale, AL
Citizens State Bank New Baltimore, MI
Peoples First Community Bank Panama City, FL
RockBridge Commercial Bank Atlanta, GA
As you'll see in these forensic tables the IRA Bank Stress Index letter grading methodology picks up on the stresses with a fair bit of warning. More than enough to implement tactical plans to mitigate exposure and shift assets to more stable institutions.
Survey Invitation
IRA is taking a survey of how CFO's, Treasurers, bankers and bank counterparties feel about the current financial landscape. It's a short survey and we invite you to participate. If you'd like to take the survey please email Diana Waters before January 15, 2010.
Monday, December 14, 2009
Failed Banks: What was knowable when?
Bank failures happen at close of business on Fridays. A team of operatives from the FDIC shows up at the door and by the time those doors open again on Monday morning the bank has been inventoried, valued and transferred to a new owner. This story institutional devastation has happened so many times in 2009 that it become a footnote fixture in the weekly wrap up of financial news. Americans don't quite understand how it really works except to take assurance in the fact that the Federal Deposit Insurance Corporation (FDIC) somehow takes care of them even as tumult rages on.So is it possible to see this kind of trouble heading towards a bank? And if so, how far in advance of disaster do the indications begin to reveal? That's the question that comes across my desk frequently. Everyone wants to know if the IRA Bank Monitor can see it coming. The direct answer is yes. IRA's A+ through F grading system was in fact developed specifically to illustrate these Bank Stress Indices or BSI's so as to begin warning early enough while there might still be time for bank directors and officers to attempt to avoid or mitigate a crisis that could result in regulatory action. But not all banks make it. For some, the fate of failure manifests. It is from these that it's possible to study the "What went wrongs?" so that the clues in the rubble can help others avoid the same fate.
On December 11, 2009 the FDIC closed three banks. The links point to IRA's Failed Bank History Report that shows the prior twelve (12) quarters of stress history for the failed institution. They are presented here as forensic examples.
Solutions Bank
in Overland Park, Kansas
Valley Capital Bank, N.A.
in Mesa, Arizona
Republic Federal Bank, N.A.
in Miami, Florida
I highly encourage serious students of banking and bank risk to study them. Reports on live institutions are available to subscribers at http://www.irabankratings.com/ .
Tuesday, December 8, 2009
Industry and Bankers: Chasing Quality
Today we turn to looking at the banking scenarios facing CFO's and Treasurers. As 2009 ends we see the Obama Administration preparing to gear up its job restoration strategy. President Obama and his team, along with pretty much every other financial expert, correctly surmises the importance of bringing US unemployment down and restarting the Main Street economy as critical to maneuvering the economy away from the vortex created by the collapse of the leveraged finance house of cards.
I must say that I personally find the thought of a grassroots approach based on emphasizing small business recovery to be refreshing. The concept that "many hands make light work" makes good sense to me. The best of breed from the old ways will do well regardless. Encouraging and supporting smaller more maneuverable business to fill the needs voids will almost surely result in a revitalized and globally competitive United States of America. It's the kind of thing this country, encompassing all our political and cultural persuasions, is good at. It's certainly a more persuasive use of precious national wealth than continuing to prop up obsolescent "sucking sound" infrastructures. The question is of the new year will be can the Administration steer a course to the correct balance. I wish the President and his team the best in this effort.
The Flight to Quality, A Never Ending Journey
The impact on banks and businesses by what is about to unfold are many but ultimately it boils down to quality. The quality of the commercial and industrial entities that will seek and use business financing in 2010 and the quality of the banking institutions that will serve the new landscape. The banks will need to contend with two things to clear the way serving Main Street again.
First is completing the transition into a new reality that the country has moved into a post real estate boom phase. Shedding exposure is a tactical necessity. This means banks need to tend to their own health particularly with respect to the lingering cancer of losses from distressed real estate still in their bloodstreams. Projected real estate loan losses still to come are massive. The bulk of Option-ARM reset dates are in the still to come in 2010 and 2011 bucket. The reality is that these loans were never meant to survive the reset. Unless an alternative is created, the human pain and loss will be massive. The current loan modification program has an applicant failure rate of over 60% and the actuarial probability is that the remainder might just be a delaying tactic slowing the inevitable. Here's the truth. We have a lot of U.S. homeowners who can only afford to be U.S. renters. Until their relationship with finance and banking is morphed to reflect that truth the cancer will remain in the national bloodstream. Statutory loss reserves and FDIC insurance premiums will continue to suck discretionary capital away from new lending and a credit availability crisis will hamper the President's recovery agenda. Still, looking at the various piecemeal components of proposed solutions to this that have crossed my desk in the last year, I have a degree of belief there is a way to do this. It needs someone to architect it into a cohesive strategy then sell it to what is clearly still a weakened and hesitant hospital patient.
The second challenge to banks is to make the transition back to becoming a competitive marketplace for quality lending. Specifically, for the supporting the President's agenda, quality commercial and industrial lending. C&I loans and lines of credit are the fuel that grows economies. Targeted C&I for small firms may be forthcoming if the Administration follows through turning policy into substance. We should not be surprised if keen competition for the highest quality C&I customers will become all the rage next year. Indeed CFO's and Treasurers of well positioned firms should be insulted if they don't have several bankers knocking on your door courting their business accounts. There's some evidence of that happening already. Expect to see all kinds of spin about why your current bank is a pile of poop and you should become a client of bank X. It'll be all to the good because a competitive Main Street financing market is a sign of an improving economy. Don't believe bank advertising material on it's face though.
CFO's of commercial and industrial companies are well advised to exercise some "Trust No One Agent Mulder" prudence. We've seen a fair few "we're better than your old bank" pitches that turn out to have higher risk and stress ratings than a company's existing banking relationships. When asked we tell companies it's worth the peace of mind to obtain even the basic IRA report on one's bank and any bank pitching you for business. CFO's need an independent eye. Think of it as getting a "CarFax" before signing the papers. Making banks compete in the bright light of day could even sweeten the pot for a CFO particularly when being approached by equally good and competitively motivated banking alternatives. Finally, in these days of SOX compliance, it's also important to prove to the finance committee and to satisfy potential adequacy of internal controls challenges that one did use at least one independent criteria to base one's decision on.
In parallel, Treasurers need to look at their deposits placements and cash management strategies with a keen eye on bank quality. There are 8,500 or so active banks in the U.S. Not all of them are healthy. Some of them are "hazardous" and that's not a term I made up, it's a category they fall into based on business conditions exceeding regulatory criteria thresholds. And just relying on ladders and brokered deposit spreading isn't enough. Treasurers still need to pick one or more primary banking relationships where sizable balances may have to sit as part of enabling the smooth operations of the CFO and COO of the firm. The same reality that hit the Wall Street finance universe applies to industrials. Shifting risk is no substitute for reducing risk.
I must say that I personally find the thought of a grassroots approach based on emphasizing small business recovery to be refreshing. The concept that "many hands make light work" makes good sense to me. The best of breed from the old ways will do well regardless. Encouraging and supporting smaller more maneuverable business to fill the needs voids will almost surely result in a revitalized and globally competitive United States of America. It's the kind of thing this country, encompassing all our political and cultural persuasions, is good at. It's certainly a more persuasive use of precious national wealth than continuing to prop up obsolescent "sucking sound" infrastructures. The question is of the new year will be can the Administration steer a course to the correct balance. I wish the President and his team the best in this effort.
The Flight to Quality, A Never Ending Journey
The impact on banks and businesses by what is about to unfold are many but ultimately it boils down to quality. The quality of the commercial and industrial entities that will seek and use business financing in 2010 and the quality of the banking institutions that will serve the new landscape. The banks will need to contend with two things to clear the way serving Main Street again.
First is completing the transition into a new reality that the country has moved into a post real estate boom phase. Shedding exposure is a tactical necessity. This means banks need to tend to their own health particularly with respect to the lingering cancer of losses from distressed real estate still in their bloodstreams. Projected real estate loan losses still to come are massive. The bulk of Option-ARM reset dates are in the still to come in 2010 and 2011 bucket. The reality is that these loans were never meant to survive the reset. Unless an alternative is created, the human pain and loss will be massive. The current loan modification program has an applicant failure rate of over 60% and the actuarial probability is that the remainder might just be a delaying tactic slowing the inevitable. Here's the truth. We have a lot of U.S. homeowners who can only afford to be U.S. renters. Until their relationship with finance and banking is morphed to reflect that truth the cancer will remain in the national bloodstream. Statutory loss reserves and FDIC insurance premiums will continue to suck discretionary capital away from new lending and a credit availability crisis will hamper the President's recovery agenda. Still, looking at the various piecemeal components of proposed solutions to this that have crossed my desk in the last year, I have a degree of belief there is a way to do this. It needs someone to architect it into a cohesive strategy then sell it to what is clearly still a weakened and hesitant hospital patient.
The second challenge to banks is to make the transition back to becoming a competitive marketplace for quality lending. Specifically, for the supporting the President's agenda, quality commercial and industrial lending. C&I loans and lines of credit are the fuel that grows economies. Targeted C&I for small firms may be forthcoming if the Administration follows through turning policy into substance. We should not be surprised if keen competition for the highest quality C&I customers will become all the rage next year. Indeed CFO's and Treasurers of well positioned firms should be insulted if they don't have several bankers knocking on your door courting their business accounts. There's some evidence of that happening already. Expect to see all kinds of spin about why your current bank is a pile of poop and you should become a client of bank X. It'll be all to the good because a competitive Main Street financing market is a sign of an improving economy. Don't believe bank advertising material on it's face though.
CFO's of commercial and industrial companies are well advised to exercise some "Trust No One Agent Mulder" prudence. We've seen a fair few "we're better than your old bank" pitches that turn out to have higher risk and stress ratings than a company's existing banking relationships. When asked we tell companies it's worth the peace of mind to obtain even the basic IRA report on one's bank and any bank pitching you for business. CFO's need an independent eye. Think of it as getting a "CarFax" before signing the papers. Making banks compete in the bright light of day could even sweeten the pot for a CFO particularly when being approached by equally good and competitively motivated banking alternatives. Finally, in these days of SOX compliance, it's also important to prove to the finance committee and to satisfy potential adequacy of internal controls challenges that one did use at least one independent criteria to base one's decision on.
In parallel, Treasurers need to look at their deposits placements and cash management strategies with a keen eye on bank quality. There are 8,500 or so active banks in the U.S. Not all of them are healthy. Some of them are "hazardous" and that's not a term I made up, it's a category they fall into based on business conditions exceeding regulatory criteria thresholds. And just relying on ladders and brokered deposit spreading isn't enough. Treasurers still need to pick one or more primary banking relationships where sizable balances may have to sit as part of enabling the smooth operations of the CFO and COO of the firm. The same reality that hit the Wall Street finance universe applies to industrials. Shifting risk is no substitute for reducing risk.
Sunday, December 6, 2009
Teeter Tot: Third Quarter Stable at the Brink
There's good news of sorts from the third quarter data. The risk distribution of the banking system looks to be in a holding pattern. Life is still full of pain of course. Credit availability remains tight. The prospect for more mortgage losses in 2010 remains looming. Leveraging vehicles for finance are sparse. And the valuation of the real assets underlying capital continues to shrink. But here's the good news. There's a pattern to the pain. The volatility and uncertainty surrounding much of 2009 has morphed to a collection of set piece issues. And that gives me some hope because set piece battles are things we can begin to work on. We Americans tend to be as good at tactical problem solving as we are bad at strategic vision. But this means that overall our problems are moving towards our strenghts rather than our weaknesses.
The risk map at the end of September 2000 was as follows,
And asset distributions are,
The risk map is roughly identical from 2Q2009 to 3Q2009 give or take a little because of continued but now predictable hemmoraging. So where are America's challenges ahead?
Do we have the political will to do the right thing?
Bringing Wall Street back into the service of Main Street remains elusive. Finance remains a universe separate from the rest of our reality. The excesses of a decade and a half of "financial innovation" have been exposed but the inertia behind the collapse continues to fight on delaying the finance system's reintegration into mainstream society. What else can you say when you witness artifacts such as a stock market that pushes up prices on the arithmetic of expense management paid for by the unemployed and underemployed. Or a derivatives market so steeped in its' habits that it remains hell bent on preventing the kind of transparency that would help ensure the debacle we are living through won't happen again? These are not economic fundamentals, they are social and political risks that this nation cannot afford. The Administration and Congress are by now well aware of these forces and their effects. There is no reason the citizenry should not expect our leaders to do the right thing.
Refocusing industry incentives to make things right.
Just under 2/3rd's of the banking industry's assets lives in the A+/A/B stress range according to our calculations. The remainder have issues clearly requiring some degree of extraordinary administration. But so far, the remediation efforts of the United States remain piecemeal and nearest I can tell, overly focused on a few large entities that fall within the fashionable coverage limit of the major news bureaus. We have so far failed to systemically tap into the single largest source of recovery strength we have, the healthier banks. They are there but they are hamstrung from acting lumped in with the weaker and louder players who's calls for mercy and aid via taxpayer dollars retain our attention. In my job I see and talk to some of these A+/A/B banks and even some really smart C grade banks on the mend that struggle to take advantage of their positional strengths. But what should be a downhill run competitive advantage is an uphill struggle for the best of breed. So here's the challenge to our leadership. Refocus the process from a smattering of narrowly selective aid packages to a tidal of movement to change the nature of the industry so it gets back to an 80 good/ 20 bad ratio. This will involve a much larger shifting of impaired assets to sound foundations. It will undoubtedly manifest as a newsworthty mix of debacles and recombinations. But we need to return to a process of natural selection based on value instead of clout.
Make Main Street the political priority already.
We cannot make lemonade from rotting lemons. You can take comfort deluding yourself looking at day to day economic indicators but the reality is that as of September 2009 the total amount of bank balance sheet real estate loans outstanding by FDIC reporting banks was around $4.5 trillion dollars. That is about the same amount as it was in March 2007. It peaked at a high of $4.8 trillion in March 2008 just as the "crisis" was becoming common knowledge to America.
But here's the thing. In 2007 the annualized default rate on these loans was 11.8 basis points. Today it's 194.3 bp. Main street home ownership is struggling. Let's look at a few more then and now comparisons.
The risk map at the end of September 2000 was as follows,
IRA Bank Stress Grade Distributions
|
And asset distributions are,
IRA Bank Assets Stress Distributions
|
The risk map is roughly identical from 2Q2009 to 3Q2009 give or take a little because of continued but now predictable hemmoraging. So where are America's challenges ahead?
Do we have the political will to do the right thing?
Bringing Wall Street back into the service of Main Street remains elusive. Finance remains a universe separate from the rest of our reality. The excesses of a decade and a half of "financial innovation" have been exposed but the inertia behind the collapse continues to fight on delaying the finance system's reintegration into mainstream society. What else can you say when you witness artifacts such as a stock market that pushes up prices on the arithmetic of expense management paid for by the unemployed and underemployed. Or a derivatives market so steeped in its' habits that it remains hell bent on preventing the kind of transparency that would help ensure the debacle we are living through won't happen again? These are not economic fundamentals, they are social and political risks that this nation cannot afford. The Administration and Congress are by now well aware of these forces and their effects. There is no reason the citizenry should not expect our leaders to do the right thing.
Refocusing industry incentives to make things right.
Just under 2/3rd's of the banking industry's assets lives in the A+/A/B stress range according to our calculations. The remainder have issues clearly requiring some degree of extraordinary administration. But so far, the remediation efforts of the United States remain piecemeal and nearest I can tell, overly focused on a few large entities that fall within the fashionable coverage limit of the major news bureaus. We have so far failed to systemically tap into the single largest source of recovery strength we have, the healthier banks. They are there but they are hamstrung from acting lumped in with the weaker and louder players who's calls for mercy and aid via taxpayer dollars retain our attention. In my job I see and talk to some of these A+/A/B banks and even some really smart C grade banks on the mend that struggle to take advantage of their positional strengths. But what should be a downhill run competitive advantage is an uphill struggle for the best of breed. So here's the challenge to our leadership. Refocus the process from a smattering of narrowly selective aid packages to a tidal of movement to change the nature of the industry so it gets back to an 80 good/ 20 bad ratio. This will involve a much larger shifting of impaired assets to sound foundations. It will undoubtedly manifest as a newsworthty mix of debacles and recombinations. But we need to return to a process of natural selection based on value instead of clout.
Make Main Street the political priority already.
We cannot make lemonade from rotting lemons. You can take comfort deluding yourself looking at day to day economic indicators but the reality is that as of September 2009 the total amount of bank balance sheet real estate loans outstanding by FDIC reporting banks was around $4.5 trillion dollars. That is about the same amount as it was in March 2007. It peaked at a high of $4.8 trillion in March 2008 just as the "crisis" was becoming common knowledge to America.
But here's the thing. In 2007 the annualized default rate on these loans was 11.8 basis points. Today it's 194.3 bp. Main street home ownership is struggling. Let's look at a few more then and now comparisons.
- In March 2007, 30-89 Day overdue loans was $43.7 billion. Today, it's $100.8 billion.
- Over 90 Day overdue loans were $11.2 billion in 2Q2007; today that figute is up to $88 billion.
- Non-Accrual residential real estate loans were $29.2 billion in March 2007; we are at $202 billion now.
- And bank real estate owned was $6.9 billion in March 2007. Today banks own $37 billion worth of real estate.
The challenge is pretty clear. The degraded real estate portfolio of America's banks massive and does not yet shows no signs of abating. Surrounding this challenging financial scenario is a loan modification program that by best estimates will work for no more than 1/3rd of the problem. An infrastructure solution needs to be found for the balance of the U.S. homeownership problem. Banks saddled with such problems cannot lend and therefore cannot help re-stimulate the economy. In economic terms this is a massive downward accelerating force if not dealt with. Numerous proposals surrounding this subject abound as we reach the end of 2009. None yet cohesive enough to represent anything amounting to a solution. We have a collective choice to focus on it or not.
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