Sunday, May 10, 2009

Behold the power of the interwebs...

Lost among all of the gloom and doom talk about the trouble in the global economy is the fact that we're seeing an amazing shift in the ability of the informed public to decipher data at lightning speed and avoid the spin that is put on data.

By about 8:38am on Friday, the BLS employment survey had been sliced and diced by various bloggers. As the stress test data was released it's become more clear that the stress tests are seriously insufficient and the banks were able to twist the Fed's arm. This is the sort of info that would have come out in a Congressional hearing 5 years after the fact back in the 80's. This info was out by Friday night in the internet era.

Hopefully this is the last time we'll have to talk about the stress tests for awhile, but here goes.

1) The Treasury and the Fed Reserve hope that strong banks will have liabilities to "tier 1 capital" at a ratio of 25 to 1. Back in the sane old days, banks were required to have leverage not exceeding 12 to 1. These rules were relaxed in 2004 and banks went to 40 to 1 in a heartbeat. Now if we can get banks back to owing $25 for every dollar of capital we'll be ok. Sheesh.

2) As I've said the stress test were designed to be passed. They were very generous with their assumptions (like the worst case unemployment assumption of 9.5% but at the current rate we'll pass that number in early July) and that has invalidated their results in my opinion. However, even with a lowered bar, the banks weren't happy with the results so they twisted the Fed's arm until Big Ben said uncle. According to the Wall Street Journal........

"The Federal Reserve significantly scaled back the size of the capital hole facing some of the nation’s biggest banks shortly before concluding its stress tests, following two weeks of intense bargaining.

In addition, according to bank and government officials, the Fed used a different measurement of bank-capital levels than analysts and investors had been expecting, resulting in much smaller capital deficits. . .

The Fed ultimately accepted some of the banks’ pleas, but rejected others. Shortly before the test results were unveiled Thursday, the capital shortfalls at some banks shrank, in some cases dramatically, according to people familiar with the matter.”

For example Bank of America's capital need went from $50 bil to $34 bil and Citigroup's went from $35 bil to $5.5 bil.

3) Finally, the banks have been told they can avoid the capital requirements if they earn their way out. Can you guess what's coming next? More faux earnings in Q2 and Q3 from the banks as they defer losses to future quarters. Kick the can down the road.....

One last point on the idea that the unemployment data was "less bad" - if the you take a very optimistic view that the slight down tick in continuing claims continues in a straight line to the end of the year and assume that the trend continues is a straight line the math produces a 12-13% unemployment by the end of the year. What do you think that might mean for mortgage delinquencies and credit card defaults? Of course it's just a forecast and things might change if the rally stays intact, but 13% unemployment could be the Weed B Gone to Chairman Bernanke's Green Shoots....

Finally, as I've mentioned before the banks face another ticking time bomb in their credit card portfolios. Today the NY Times jumped on board....

"But if unemployment breaches 10 percent, as many economists predict, the rate of uncollectible balances at some banks could far exceed that level. At American Express and Capitol One Financial, around 20 percent of the credit card balances are expected to go bad over this year and next, according to stress test results. At Bank of America, Citigroup and JPMorgan Chase, about 23 percent of card loans are expected to sour.

Even the government’s grim projections may vastly understate the size of the banks’ credit card troubles. According to estimates by Oliver Wyman, a management consulting firm, card losses at the nation’s biggest banks could reach $141.5 billion by 2010 if the regulators’ loss rate was applied to their entire credit card business. It could top $186 billion for the entire credit card industry.

What is more, the peak unemployment level that regulators used to drive their loss estimates is roughly what current rates are on track to reach. That suggests that if the unemployment rate gets much worse, credit card losses could be worse than what regulators projected."


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