Banks: Beyond the Headlines

Posted by Ray on August 1, 2009 under cnbc, Economy, FDIC, Main, Markets | 2 Comments to Read

We all know there are problems within the banking sector from lack of lending, whether it is demand or banks unwillingness to lend is a matter of debate, and continuing credit losses. Banks are continuing to set aside more money for potential credit losses which indicates the road to recovery is still not clear yet. Not to mention the building commercial real estate issue which has yet to fully rear its ugly head yet, but recent numbers show commercial real estate delinquencies are up 585% over last year at this time.

However, what are not receiving much publicity is bank closures by the FDIC, which we post every Friday night when the report is issued in our piece called Friday Night Fun at the FDIC. One would think that seizures by the FDIC would have abated us by now with the massive bank bailouts which have cost us an estimated $3 trillion and has a projected cost of $23 trillion if things get really bad again.

Last year the US saw 25 banks closed through brokered deals by the FDIC with the most notable being Washington Mutual and Indy Mac. After those two closures we heard bits and pieces of other closures, but the news of closures began to dissipate at the early part of 2009. I suspect the media assumed that most banks worth saving had already been saved or they a carelessly overlooking the continuing problem.

I understand the “too big to fail” theory, but I disagreed with it in 1999 as much as I do today. In fact the greatest betrayal of our government and what is directly responsible for our current troubles was the dissolution of the Glass-Steagall Act which kept banks and investment firms separated in order to control risk. Because of the too big to fail theory those banks were saved first and very little rescue went out to smaller institutions.

As a result we have seen a tremendous increase in bank closures over the past 7 months. In fact, the closure rate is alarmingly high and accelerating every month. To date we have had 69, exhibit 1-1, banks fail in 2009 which is 276% more banks than last year and at the current rate it will double by the end of the year. Keeping in mind that in July alone we have had 24 banks closed by the FDIC which is almost 100% of all of last years closures, all were merged into new entities.

Exhibit 1-1

This should trouble you as it has an impact to the availability of credit in smaller communities. Even though most banks are merged with others having less competition could mean less credit if the new owner tightens lending standards or practices. This could also mean less jobs as many branches do get closed in these brokered deals mostly because of overlap or poor profit margins.

Most of the banks failing are “hot money” banks who dealt in brokered CD’s which offer higher paying yields than traditional brick and mortar bank CD’s. Since the bank pays more interest on these CD’s they must make higher risk loans to keep profitability intact. Most acquiring banks, especially lately, had declined these brokered CD’s leaving the FDIC on the hook for repayment from the asset sales or to make whole if not enough money was raised through liquidation of remaining assets. This costs you, the tax payer, money eventually and this is why the FDIC raised its premiums earlier this year.

Costs of Closures

Not only is the pace of closures accelerating, but the cost of the closures is also increasing at a much higher rate than you might think. Last year the loss of Washington Mutual was nothing to the FDIC, but who knows what guarantees or funding the Fed offered that we do not know about, but other closures did cost a significant amount of money to the FDIC totaling some $14.9 billion for 2008. We calculated the cost to the FDIC according to the higher end of their estimates and included all loss-sharing agreements.

During 2008 we had a real crisis with major institutions failing, but we have been told that this year things are much better and our banking system is safe. That may be true for firms such as JP Morgan and Goldman Sachs, but the truth of the matter is we have had bank failures almost every week this year. The banks are smaller, most are below $3 billion, but the net result is astonishing with the total projected costs reaching $13.5 billion, there were not even calculations of estimates in some of the FDIC press releases so we still do not have a real number. See exhibit 1-2 for a chart of the cost of bank failures

Exhibit 1-2

How can things be getting better when the banks are failing at an astonishing rate and the cost of the failures are going to surpass 2008 when we just crossed the half way point in the year. The fact that the media is not reporting on this is obscene and a disservice to the American people. The major media outlets are more interested in hearing the latest Obama speech or picking out the sparse pieces of good news proclaiming that the recession and the crisis is over all while ignoring this information.

These same pundits are also claiming we are in a new bull market and everything is just fine, but there is no mention of bank closures, none. Worse yet, we watched as many TV personalities pointed to a 3 month rise in the durable goods orders as bullish, but then turned around and said that the last report was too volatile, it is truly baffling that anyone takes these people seriously anymore.

The Bottom Line

The crisis is still here it has just been buried by the very same people you may trust on the TV. Anyone looking at these numbers, plus other evidence of the true health of the economy would not be calling for a bull market with another 20%+ to run.

You should be questioning everything from the falling dollar, which is the real reason for the bull rally besides an oversold situation, the lack of coverage of bank failures, the 35% reduced earnings expectations which were easily beat, with no top line earnings growth, unemployment is a lagging indicator, it is not in this case, and the record number of insiders selling their stock. Like it or not this time it is different than almost any other time in history because we do not loose major players like Lehman, Bear, Stearns and Washington Mutual in an average recessions.

Without questioning these things you are simply sticking your head in the sand and pretending that everything is OK, when we still have significant problems that remain unresolved. It is imperative that you do research before committing your capital to the equity markets and look at what is really going on otherwise you will get burned. If you want to hope everything is fine that is fine by me because, if the truth be known, I hope everything gets better soon as well, but do not hang your financial future on hope, that’s just crazy talk.

Are you buying this rally?

Posted by Ray on July 30, 2009 under Economy, Markets | Be the First to Comment

I believe the market is very overbought right now and the data does not support this massive run in the indexes. Below is the YTD chart of the S&P 500 with various technical indicators. I think you have to judge the earnings, economic data (or lack there of) and technical analysis.

I do not believe this rally is sustainable and is a head fake. Not only does this rally feel over extended it is also largely based on the weak dollar. Below is the YTP chart of the DXY vs. the S&P 500. What is funny is that CNBC and others on shows like Fast Money actually think a cheaper dollar is good for the US. They acknowledge the movement between equities and the dollar strength, but totally ignore its impact on the country long-term. Commoditization of our equity markets is not good and is a problem.

It is up to you whether you want to jump into this market or not, but I am a seller into this rally. I do think it will continue to move higher with much more volatility, but the correction is inevitable even though no one knows when it will come. My guess is in the next 30 days we will see a sell off that will start small and intensify into the fall.

All is not rosy in the world, contrary to popular belief, and the global economy is starting its second leg down. We typically have these unusual moves before the markets begin to struggle and sell off. A few months and wads of cash cannot fix things over night and that is what people will realize in the near future, especially since real estate, residential and commercial, are still a mess.

As I watch the talking heads now they keep saying this is the best run since the 1930′s. Shouldn’t that be telling you something? Tread carefully in this market and if you feel like you missed the run, do not worry you will get a better price in the near future.

Disclaimer – I am short the dollar/Euro pair.

This week Treasury Auctions

Posted by Ray on July 27, 2009 under Economy, Main | Read the First Comment

We are about to set another record in debt offerings by auctioning off $115 billion, possibly $211 billion, in new debt. Today they auctioned of 20 year TIPS which went well, not surprisingly, but the issues may come up with longer term notes coming later in the week.

Monday’s auction will be followed by the sale of $42 billion of 2-year notes Tuesday, $39 billion of five-year notes Wednesday and $28 billion of seven-year notes Thursday. Shorter term bills will also be issued bringing the total to $200 billion. This is another record auction which surpasses Junes record and Junes auction was a new record from the month earlier. Anyone see a problem with this?

I think it would be wise to stay on the short end of the yield curve based on the fact that there is no reward for holding longer term treasuries. The yields are not attractive, in my opinion, on the longer end of the curve, although real yields, which are inflation adjusted yields, are the highest since the 1990′s. However, that is based on today’s inflationary outlook and it will probably be a different story a few years out when inflation will eat away those yields.

Corporate bonds offer a much better opportunity based on yield spread, but risk is another story. High yield bonds are great right now, but defaults are up 4 ties last years defaults. If firms cannot roll their debt or obtain any traditional financing then defaults will increase, which is what I expect to happen. I am riding the high yield bus right now through mutual funds because the risk is too high otherwise, but will be out of them by mid-to late August.

The Markets Know There is a Problem

The real market is telling you there is a problem. Short interest only declined in the S&P 500 because you cannot find shares to short. What a better way to prop up the market by taking away shares to short or doing buy-ins because there all of a sudden is a shortage of shares to borrow.

There is no rational reason for the market to be up as much as it is. Earnings were not great and US domestic growth is nonexistent in the earnings reports. Most of the growth is from overseas and the top line revenue figures are very weak. Of course next quarter the earnings will look even better when comparing 3Q09 to 2Q08 figures. Forget that earnings expectations have decreased by at least 35% year-over-year.

I would not buy and hold anything right now.

No, It’s Not Over

Posted by Ray on October 13, 2008 under Main | Be the First to Comment

Yes, we had the greatest one day point gain ever, but it was on very light volume and the bond market was closed. This was short covering, so do not go dumping all of your money into equities right now.

The true test will be when the US markets open and the bond market is open. In between now and then we will see a continued rally in the overnight markets, but only Europe has actually started to implement their guarantees, but the US has not. We have a better road map of how it will play out, but we are not even sure that the bonds will sell yet.

There are too many if’s and but’s right now, so hold tight and dollar cost average in to the market. We expect to see much of these gains to evaporate tomorrow based on volume alone. 936 points on 1.4 billion shares, not a sign of recovery and is unsustainable.