The President, Nancy Pelosi, Harry Reid and only God knows how many politicians have all said that the Fin Reg bill ends all taxpayer assisted bailouts for Wall Street. Well, the news lately will put that phrase to the test. To think that all of these foreclosures are not an issue was crazy to begin with, but throw in a little foreclosure fraud and overnight you get a $47B putback from BlackRock and the Fed… go figure.
I believe the putback situation we saw yesterday was merely the beginning and there are many more tens, if not hundreds, of billions of dollars to follow. The banking system cannot handle that type of volume, remember in 2008 it was MBS and derivatives of MBS securities that caused our little problem. There is no easy remedy for this problem, regardless of what JPM or BoA says, since we are talking basic contract law here. Now, Congress did try to sneak through a bill that would have solved the industries problem, H.R. 3808 which would make courts accept all sorts of junk affidavits, but Obama ‘pocket’ vetoed the bill. Do not think that bill went away because it can come back and probably will under a new name, but it will fail in the courts, in my opinion, remember Obama said Congress needed to fix some issues with the bill, a telling statement on his opinion.
Not only does he want Congress to merely make some cosmetic changes to it, but Obama also said that this is just a “minor paperwork snafu.” Oh, how I wish that were true, but it is not a minor snafu. I do not support homeowners who took on irresponsible loans, I have long said they should lose their homes, but I dislike actual fraud even more than irresponsible borrowers. Let’s also not forget that these same lenders often did not verify the borrower’s income either which makes this whole problem a bit ironic as lenders cut corners to give the loan and now they cut corners to foreclose on the collateral. There is a remedy to all of this, as written on Zero Hedge previously, which is a borrower accepts a loan modification which clears the title, guess how successful the HAMP will be now.
If Congress doesn’t create a fix, which they should not, banks will lose foreclosure proceedings to those defendants who decide to fight it. I do not believe anyone really knows how big this problem really is and, frankly, I would not trust anyone who attaches a number to it. After all, these will be the same people who said sub-prime loans were a nonissue a few years ago, the missed that one by a mile, obviously, so they will miss this one as well. Not to mention that this issue will once again be a global issue. Who knows how many of these bonds are sitting on the balance sheet of banks all around the world. Hell, we do not even know what outstanding derivatives are still in play with this paper.
To assume that this will pass with no real material issue to the banks is idiotic. The risk is real and the system is still very, very weak. Perhaps now we know why bank reserves are still so high, did they know this might be an issue? Probably as we know banks do not like to fess up to mistakes until, well, the global financial system is about to implode. The credibility of banks and government has probably never been so low in all of history and that is a problem especially if they need help again. I fully believe another bailout will be needed over this and that means the issues of 2008 will return in 2010 with a vengeance.
Remember, in 2008 it was really the CDO’s and CDS’s on tranches of MBS products that were the problem. We all remember senior and junior tranches that were in the headlines, but back then at least you could get the collateral back to try and sell, albeit at a much lower price. Today if these things are still blowing up and you cannot even get the collateral back that would be a total loss for the investor or bank if it got putback to them. See the problem now? It is just not the banks that have this problem, but the GSE’s as well who may be guaranteeing a lot of this junk now. The GSE’s have $5T in outstanding mortgage guarantees and some say that mortgages as far back as the late 1990’s might not have proper chain of title.
The math is enormous and this should scare people to death. Perhaps it will all go away. Perhaps judges will ignore the 200 year precedents of contract law, they did it with the auto makers, so why not now. However, if this doesn’t go away we are definitely in for a rerun of 2008 again on a much larger scale since even the government is reaching the end of their credit line. Maybe QE2 will buy these securities and that is how the problem will disappear, but if nothing is done the entire mortgage market and perhaps some well known banks are done… again, unless all our politicians lied to us.
SNL Financial came out with a report today that said 90 banks have missed at least 1 TARP dividend payment, that is about 11% of all TARP recipients have defaulted for those of you keeping count. Keep in mind that about 829 institutions received TARP funds and about 50+ have repaid TARP funds, mostly the big name institutions that we all know and love. What is critical to note is that the defaults, I would call missing a payment a default since banks call a borrower who misses a payment to be in default, are increasing, not decreasing, as we approach the 2 year anniversary of the historic TARP legislation.
What that tells me is that not everything is fine when we are 2 years into the largest bailout in the history of bailouts and we have banks defaulting, remember only the “strongest banks” were getting bailed out, and bank closures accelerating as well. All of this while the pundits talk about “the greatest V shaped recovery in history” which is laughable. If we were in recovery mode wouldn’t these banks be earning their way out of this mess? They have the greatest accounting gimmick, mark to model, at their disposal and they are defaulting and being taken over by regulators at an increasing rate, how can that be? Perhaps the system is not as strong as we are told, that sounds about right to me.
We have to face the facts and the fact is that the data does not lie, banks are defaulting and failing. Real estate prices, both residential and, especially, commercial are falling which means more problems for banks. The banking industry as a whole is much larger than Citi, Bank of America and JP Morgan, and I am hard pressed to make the statement that those banks are largely benefiting from proprietary trading, government bond underwriting and the ability to mark to model. In other words, the bailout failed with the exception of the too big to fails and, as we already knew, the bailout was really just a selective bailout anyhow. How could Bear, Sterns be allowed to be acquired, but Lehman fail? Just days after Lehman fails AIG gets bailed out, the proof is pretty overwhelming about the selectivity of the bailouts, in my opinion, and TARP was designed to make the big banks flourish and the rest of the banks, well who cares because no one cares about the rest of the banks. I mean, who ever heard of Midwest Banc Holdings anyhow, except for the depositors.
So, as the ECB gets ready to release useless stress test results, which I am sure will show Greek and Spanish banks in trouble, but everything else hunky dory, consider the fact that our stress test and bailouts were completely and utterly useless. In other words, if you cannot trust our results, it has taken almost 2 years for the failures to show up, how can you trust the ECB’s results? Geithner knows this which is why he pushed for the stress test. He knew you can fool the markets for a little while with useless stress test and a seemingly huge bailout fund. However, the results cannot be hidden forever and our results are public, for those willing to look for the statistics, and prove that their strategy just kicks the can down the road and still leads to failure. Unless you consider accelerating defaults and closures a success, I am sure some talking head somewhere will see it as a stunning success, but in the real world most people see escalating failure for what it is, failure.
Earnings for 1Q10 actually look OK, depending what companies you look at, but there seems to be some weakness in top line revenue, which is what I thought would happen. Even with a few firms not reaching their revenue estimates the EPS seems to look positive. What it looks like is companies are still living off of cost cutting measures which mean that new hiring will be sparse at best. The weekly initial jobless claims still look exceptionally weak, 456K this week which was down from 480K last week, which shows firms are still laying people off, not a good sign, even though there is some stabilization in the claims data. Essentially, we have stabilized from really bad to just bad on the jobs front.
The big issue of the day is Greece, their 10 year is now at 8.7% and rising and the 3 year is at 11%, as they have been caught, again, lying about their debt to GDP. The other PIIGS are also moving into the limelight, Portugal, Italy and Ireland specifically, which is also not a good sign. Why is Greece such a big deal? It is because European banks own a ton of this debt, private banks and central banks, for instance, France holds $781B on such debt and the CDS spread on their debt is rising because of their exposure. In other words, this could be a trigger for another banking crisis and governments are low to out of bullets to fight another crisis.
Existing housing numbers just came out, for March, and the numbers are up 6.8%, but it is because of the closure of the tax credit at the end of April. However, inventories are building, again, which means there will be some downward pressure on home prices in the near future. I am afraid that we are far from a healthy housing market and in my opinion, the government needs to let prices fall in order to clear the inventory and to have real price discovery for real estate. Inventories in the existing housing market is simply too high at well over 3M which, compared to the 5.28M run rate, is terribly high getting closer to a full years worth of inventory waiting to be sold. This is not even looking at the new construction data which will add a significant amount of supply to the market. We need less housing and the only way to clear that inventory is to let prices fall, but that will never happen and look for another extension of the home buyers tax credit.
What is interesting is that banks are reporting stellar earnings, but prices on homes are down, inventory is building and commercial real estate is, literally, blowing up. The question is, how can earnings be so good when the assets are or should be declining in value? Answer, suspension of mark-to-market. Essentially, banks are now practicing the same accounting gimmicks as Enron by using mark-to-model (make believe), but this is legal because the FASB allows it… unreal.
There is little question that the data is getting better, but when we look at why and what levels the data is getting better it is disturbing to say the least. While the numbers are better, the term “better” is a relative term in itself, and we have stabilized from horrible to just bad. In my opinion, all the elements of a double dip or even another serious banking crisis exist in the markets. If we went back to real accounting or factor in a Greece default the markets would get hammered as this would show we have climbed too fast and risk is not priced into this market at all. The longer we refuse to acknowledge the bad debts on the banks books or a default from any of the PIIGS the worse the inevitable correction will be.
While I am bearish on the overall market, mainly due to valuation, I like many sectors of the market. I am partial to biotech, high yield dividend stocks – i.e. MO, PM, VZ, T, etc. – esoteric no correlated assets – frontier markets, country specific ETF’s, precious metals, etc. – and I like bonds, deflation is here folks. I do own MO and PM, I also do not like ‘talking my book,’ but own several biotech’s and PBE, biotech ETF. In my opinion one should be very careful as we are once again looking at new ways to value stocks, this is what they did in 1999. If you cannot value stocks using older methods like P/E multiple and so forth it is not worth owning, in my opinion. I see little real value plays in this market and there is no need to jump into this market right now, your patience will be rewarded. I think one should hold core holdings, dividend paying stocks, high grade bonds and some cash. Cash may be king at the end of the day.
Thanks to Bloomberg and Fox we might now find out who borrowed what and what was provided as collateral to the Fed during the crisis we may finally know thanks to a lengthy legal battle. The Fed might continue to fight, but it may not go much further, just show us already as this data is almost 2 years old, I am sure we can handle the truth.
However, you will see that the Fed took some very questionable items as collateral or so we think. Some bankruptcy documents do show that the Fed did take some stocks and other, well, crap for collateral during the height of the financial crisis. What many people do not know is that it is against the rules for the Fed to take credit risk since it is the U.S. governments bank. These documents will either confirm or deny those rumors, but I am betting on the former, if we ever really get to see them.
Could this be the end of the Fed as we know it? I hope so because since the Fed was enacted, in secret in 1913, we have witnessed the dollar lose 97% of its value, a depression in 1920-21, the crash of 1929 leading to the Great Depression (now known to be the Fed’s fault for tightening credit), more boom-bust cycles than any other time in history, the 1970’s (really, need I say more about the 70’s? I think they introduced bell bottoms too, but I cannot prove it), the 1980 near collapse of the U.S. treasury market, the first banking crisis, Long-Term Capital, the dotcom bubble, loose monetary policy for the last 30 years, the housing bubble, the complete meltdown of the financial system, and, for its final act, complicity to destroy the dollar’s value with its current balance sheet.
Really, I cannot think of any reason why we need to reform the Federal Reserve system.
The FDIC has made it clear that bank closures are no big deal and that they have the capital to cover the increasing amount of closures that we are seeing. However, when we hear 106 bank closures it sounds bad, but not really that bad, especially when put into the perspective of the S&L crisis of 20 years ago. I would first like to point out that the S&L crisis involved institutions that were much smaller in size, which is very important to note. Second, did the FDIC ever run out of money during the S&L crisis? No, it did not. So a comparison is kind of ridiculous in my opinion.
When we examine the frequency of bank closures we see a dramatic increase after the supposed recovery has begun in the economy. How could that possibly be? If the economy if recovering bank closures and unemployment cannot both be lagging indicators, especially bank closures with the Fed having rates at zero and the yield curve favorable towards lending. Well, we know banks are not lending, but that is the story we are being fed, so it stands to reason that if we were having a recovery then banks would not be failing at the rate we are seeing.
I also see an anomaly that I cannot explain in bank closures. We have been averaging, in the second half of 2009, between 2 and 4 banks shutting down a week. However, in the first 2 weeks of October there were almost no closures or 1 per week, very odd. This of course comes after the FDIC announces it is virtually broke, so I do not believe this is a coincidence. Last Friday we saw a huge increase in closures from 1 to 7 banks, after the FDIC is guaranteed to collect 3 years worth of fees from institutions which will raise some $45B.
However, even with an additional $45B in hand there is no way the FDIC can remain solvent and cover the remaining 400 or so troubled banks on their watch list, based on historical factors from this year. What does that mean? It means it will have to tap its banks, again, or its emergency line of credit with Treasury, either way the FDIC is facing a crisis in the near future and to deny that is an insult to any level headed person’s intelligence, see charts below.
When a bank fails the FDIC steps in and tries to find a buyer for the institution. Now the buyer can take all or some of the failed bank leaving the rest for the FDIC to handle. Of the assets the acquiring bank takes they can enter a loss-share agreement with the FDIC on those assets to cover non-performing assets or unknown losses because these deals often happen extremely quickly, within a couple of days or in hours in some cases. The FDIC will pay up on some or all of those loss-share agreements, see BB&T, WFC or any other bank earnings statement to verify that statement, but it’s true. Not to mention the FDIC also guarantees some debt offerings, see Goldman Sachs and other banking institutions, which it may have to cover in the future as well.
The point being is the FDIC pays out on a bunch of things that most people do not even consider. Especially the loss-share agreements which most people simply ignore on the weekly closure press releases, but I do not. I do not for a couple of reasons, I have been around too long, I am too cynical and I have worked for a bank in a former life so I know the game. If you are going to offer a bank a guarantee on an asset they are going to find a way to collect on that guarantee, wouldn’t you?
As far as the actual bank closures themselves, they have actually slowed down, see below. This should not make you feel good about the situation because I fear there is something going on simply because the FDIC hasn’t actually received its funding from the banking system yet. In other words, closures should be higher, about 15-17% higher based on the averages and velocity, it’s just math that’s all.
Exhibit 1-1
However, the costs of these closures, which includes loss-sharing agreements, has just ballooned far beyond where I thought they would be. The last time I did this chart was in August so this was a bit of a shocker for me. Granted, the actual losses will vary from my projected losses, but trust me, not by as much as you might think. By my guesstimate perhaps no more than 20-25% on the high end. Could I be wrong? Sure, but there are a few things to take into account. We do not know how much real estate, residential or commercial, was inherited or what the other credit portfolios look like. Given they were small banks, my guess is they are a mess so this means a higher percentage of the loss-shares will have to paid out.
Exhibit 1-2
There is also a few really big banks that collapsed which huge credit looses. Those loss-shares, totaling billions of dollars will have to be paid out probably 100%. The other thing to consider is the fact that velocity of closures will pick up and what we see here is about the same size of the iceberg as the folks on the Titanic saw. That means the other 80-90% of the troubled institutions are still out there, lurking in the dark spreading bad credit trying to stay afloat and that means they are doing dangerous things because they lost hope and know all is lost. That is the same as locking the stair wells to third class on the Titanic to let all the first class passengers off first, essentially killing off the masses to try and save the few. This is guaranteeing that the system will have to absorb their reckless behavior when they know all is lost.
While Sheila Bair can claim that the taxpayer has never funded the FDIC all I have to say id that 2008/09 has had its fair share of firsts. If she has to turn to the treasury then the taxpayer is essentially bailing out the FDIC and to think differently is crazy. Not to mention that every time she levies the banks we pay for it through a higher ATM fee or some other small fee, so it is always taxpayer funded somehow. If you can look at those numbers and tell me that $45B will carry the FDIC for an additional 1 year and back that up with reasonable data, I will listen. However, there is no way that is possible when there are 400 banks on the watch list and we have only had just over 100 failures and the FDIC is broke already.
I have nothing against the FDIC or Sheila Bair, I am just running the numbers and it is not possible. The numbers simply do not lie and when you have 4x the amount of troubled banks as the amount of failed banks already and you are broke, the math doesn’t add up. We got problems, where it goes from here, I do not know, but it may not be pretty.
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