Frontrunning the Myopic Muppets - Bank Bailout Edition!
Bloomberg ran a very interesting article yesterday, jumping on the bandwagon of what I espoused years ago - and in great detail. Let's take a look at the article as I run down a check list of Reggie's favorite bank busting hits...
On television, in interviews and in meetings with investors, executives of the biggest U.S. banks -- notably JPMorgan Chase & Co. Chief Executive Jamie Dimon -- make the case that size is a competitive advantage. It helps them lower costs and vie for customers on an international scale. Limiting it, they warn, would impair profitability and weaken the country’s position in global finance.
Hmmm.... JP Morgan, Jamie Dimon, check... An Independent Look into JP Morgan
Cute graphic above, eh? There is plenty of this in the public preview. When considering the staggering level of derivatives employed by JPM, it is frightening to even consider the fact that the quality of JPM's derivative exposure is even worse than Bear Stearns and Lehman‘s derivative portfolio just prior to their fall. Total net derivative exposure rated below BBB and below for JP Morgan currently stands at 35.4% while the same stood at 17.0% for Bear Stearns (February 2008) and 9.2% for Lehman (May 2008). We all know what happened to Bear Stearns and Lehman Brothers, don't we??? I warned all about Bear Stearns (Is this the Breaking of the Bear?: On Sunday, 27 January 2008) and Lehman ("Is Lehman really a lemming in disguise?": On February 20th, 2008) months before their collapse by taking a close, unbiased look at their balance sheet. Both of these companies were rated investment grade at the time, just like "you know who".
Back to Bloomberg...
So what if we told you that, by our calculations, the largest U.S. banks aren’t really profitable at all? What if the billions of dollars they allegedly earn for their shareholders were almost entirely a gift from U.S. taxpayers?
Granted, it’s a hard concept to swallow. It’s also crucial to understanding why the big banks present such a threat to the global economy.
Let’s start with a bit of background. Banks have a powerful incentive to get big and unwieldy. The larger they are, the more disastrous their failure would be and the more certain they can be of a government bailout in an emergency. The result is an implicit subsidy: The banks that are potentially the most dangerous can borrow at lower rates, because creditors perceive them as too big to fail.
In one relatively thorough effort, two researchers -- Kenichi Ueda of theInternational Monetary Fund and Beatrice Weder di Mauro of the University of Mainz -- put the number at about 0.8 percentage point. The discount applies to all their liabilities, including bonds and customer deposits.
Small as it might sound, 0.8 percentage point makes a big difference. Multiplied by the total liabilities of the 10 largest U.S. banks by assets, it amounts to a taxpayer subsidy of $83 billion a year. To put the figure in perspective, it’s tantamount to the government giving the banks about 3 cents of every tax dollar collected.
Big bank bailouts? Check!
And back to Bloomberg...
The top five banks -- JPMorgan, Bank of America Corp., Citigroup Inc., Wells Fargo & Co. and Goldman Sachs Group Inc. - - account for $64 billion of the total subsidy, an amount roughly equal to their typical annual profits (see tables for data on individual banks). In other words, the banks occupying the commanding heights of the U.S. financial industry -- with almost $9 trillion in assets, more than half the size of the U.S. economy -- would just about break even in the absence of corporate welfare. In large part, the profits they report are essentially transfers from taxpayers to their shareholders.
Hmmmm. Taxpayer subsidized, big name
hedge fund bank barely breaking even without bailout funds... Check!
GS return on equity has declined substantially due to deleverage and is only marginally higher than its current cost of capital. With ROE down to c12% from c20% during pre-crisis levels, there is no way a stock with high beta as GS could justify adequate returns to cover the inherent risk. For GS to trade back at 200 it has to increase its leverage back to pre-crisis levels to assume ROE of 20%. And for that GS has to either increase its leverage back to 25x. With curbs on banks leverage this seems highly unlikely. Without any increase in leverage and ROE, the stock would only marginally cover returns to shareholders given that ROE is c12%. Even based on consensus estimates the stock should trade at about where it is trading right now, leaving no upside potential. Using BoomBustBlog estimates, the valuation drops considerably since we take into consideration a decrease in trading revenue or an increase in the cost of funding in combination with a limitation of leverage due to the impending global regulation coming down the pike.
Subscribers can download my full review of GS's most recent quarter here: GS 2Q10 review. It is a recommended read, for we have performed some sleuthing and believe we may have conclusive evidence that the solvency of this overly marketed hedge fund investment bank is again at risk, just as it was in 2008. For those who wish to partake in our services, you may subscribe here.
And back to Bloomberg...
Neither bank executives nor shareholders have much incentive to change the situation. On the contrary, the financial industry spends hundreds of millions of dollars every election cycle on campaign donations and lobbying, much of which is aimed at maintaining the subsidy.
Hmmm! Hundreds of millions of bank bonus cum taxpayer dollars recycled back into government official's pockets in teh form of lobbying dollars, donations and gifts? Check!
- Regulatory capture (adopted from Wikipedia): A term used to refer to situations in which a government regulatory agency created to act in the public interest instead acts in favor of the commercial or special interests that dominate in the industry or sector it is charged with regulating. Regulatory capture is an explicit manifestation of government failure in that it not only encourages, but actively promotes the activities of large firms that produce negative externalities. For public choice theorists, regulatory capture occurs because groups or individuals with a high-stakes interest in the outcome of policy or regulatory decisions can be expected to focus their resources and energies in attempting to gain the policy outcomes they prefer, while members of the public, each with only a tiny individual stake in the outcome, will ignore it altogether - blah, blah....
About a year and a half ago, after sounding the alarm on the regionals, I placed strategic bearish positions in the sector which paid off extremely well. The only problem is, it really shouldn't have. Why? Because the problems of these banks were visible a mile away. I started warning friends and family as far back as 2004, I announced it on my blog in 2007, and I even offered a free report in early 2008.
Well, here comes another warning. One of the Doo Doo 32 looks to be ready to collapse some time soon. Most investors and pundits won't realize it because a) they don't read BoomBustblog, and b) due to regulatory capture, the bank has been given the OK by its regulators to hide the fact that it is getting its insides gutted out by CDOs and losses on loans and loan derivative products. Alas, I am getting ahead of myself. Let's take a quick glance at regulatory capture, graphically encapsulated, then move on to look at the recipients of the Doo Doo Award as they stand now...
A picture is worth a thousand words...
And back to the Bloomberg article...
The result is a bloated financial sector and recurring credit gluts. Left unchecked, the superbanks could ultimately require bailouts that exceed the government’s resources. Picture a meltdown in which the Treasury is helpless to step in as it did in 2008 and 2009.
Excessive liablities potetially outstripping the ability of the .gov to bail? Check! The BoomBustBlog Review of Goldman Sach's 2nd Quarter, 2010 ...
So, what is GS if you strip it of its government protected, name branded hedge fund status. Well, my subscribers already know. Let' take a peak into one of their subscription documents ( Goldman Sachs Stress Test Professional2009-04-20 10:06:454.04 Mb- 131 pages). I believe many with short term memory actually forgot what got this bank into trouble in the first place, and exactly how it created the perception that it got out of trouble. The (Off) Balance Sheet!!!
Contrary to popular belief, it does not appear that Goldman is a superior risk manager as compared to the rest of the Street. They may the same mistakes and had to accept the same bailouts. They are apparently well connected though, because they have one of the riskiest balance sheet compositions around yet managed to get themselves insured and protected by the FDIC like a real bank. This bank's portfolio looked quite scary at the height of the bubble.
But there are solutions, as detailed in How To Prevent Bailouts, Bank Runs & Other Fun
Observe the setting of the infamous "Bamboozled" speech delivered by Malcom X on 125th Street in Harlem in the video below. Take careful note of the signs and banners and tell me if they don't apply to today's situation & what banks/captured regulators have gotten away with today...
A discussion on bank bailouts, bank runs and other fun things to do with your hard earned dollars... Plus a simple solution to prevent such occurrences.
Let there be no mistake, most have been "Bamboozled by the Banking Industry"
If rampant bank bailouts irk you, read this and get ready to SPIT FIRE!!!
Dipping into the BoomBustBlog archives with "Bank Run" on the brain???...
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