Thursday, August 13, 2009

Financial Markets Duel With Reality

We have a busy post this morning. First, from Zero Hedge. Note that the italicized part is from the COP report itself, and the non-italicized part is Tyler Durden's commentary:

August COP Oversight Report: $658 Billion In Total Level 3 Assets, Small Banks Need "To Raise Significantly More Capital"

Submitted by Tyler Durden on 08/11/2009 08:27 -0500

The Congressional Oversight Panel has released its August report which contains some much more dire language about the prospects of the U.S. banking system than did the joke that was the Stress Test, especially in the small/middle bank sector.

The Panel‘s analysis of troubled whole loans suggests they pose a threat to the financial health of smaller banks ($600 million to $100 billion group). Using the same assumptions, it looks as if banks in the $600 million to $100 billion group will need to raise significantly more capital, as the estimated losses will outstrip the projected revenue and reserves. Under the "starting point" scenario, this second group of banks will need to raise $12-14 billion in capital to offset their losses, while in the "starting point + 20% scenario", non-stress-tested banks are expected to have to raise $21 billion in capital to offset their losses. The capital shortfall for those relatively smaller banks is primarily due to the lack of reserves, which on average account for only 25 percent of the expected loan losses.

Another useful data point is the disclosure on the total Level 3 Asset Exposure at March 31, 2009. Compliments of the FASB, over $650 billion in "assets" are being marked-to-model, and most likely overestimate the true worth of these assets by about 50%. That's $300 billion in hot air on the banks' balance sheets.

DoctoRx here now. Moving along . . .

Jonathan Weil has an informative writeup on this topic, which includes complex financial institutions of any size, in Next Bubble to Burst Is Banks’ Big Loan Values. It begins with a "teaser":

It’s amazing what a little sunshine can accomplish.

Check out the footnotes to Regions Financial Corp.’s latest quarterly report, and you’ll see a remarkable disclosure. There, in an easy-to-read chart, the company divulged that the loans on its books as of June 30 were worth $22.8 billion less than what its balance sheet said. The Birmingham, Alabama-based bank’s shareholder equity, by comparison, was just $18.7 billion.

So, if it weren’t for the inflated loan values, Regions’ equity would be less than zero. Meanwhile, the government continues to classify Regions as “well capitalized.”

The report is concise and interesting.

Meanwhile, the discordance between facts "on the ground" as we are shown them and the abstractions of stock traders continues, as also reports Global Confidence Increases on Signs Recession Is Nearing End and Stock Bulls Increase as Survey Shows Most Optimism in Two Years. The latter has a quote that points out that the professionals are aware of the momentum nature of this rally:

“The more stocks go up, the more optimism there will be,” said Alberto Espelosin, who helps manage about $10 billion at Zaragoza, Spain-based Ibercaja Gestion and was among 1,375 participants in the survey.

He is likely referring to the public.

Finally, back to the real world, there is the world's largest retailer, Wal-Mart, which just reported a challenged quarter, with same-store sales declining year-on-year and coming in below the company's own predictions. Also from

Sales at U.S. stores open at least a year fell 1.2 percent after the retailer had forecast them to remain little changed or rise as much as 3 percent. The cost of sales declined 2.5 percent to $75.2 million.

As of now, the price inflation is in equities, not in the real world.

Copyright (C) Long Lake LLC 2009

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