Opinion

The Great Debate

What’s your bank worth?

By Michael Maiello
February 26, 2013

Half a decade has passed since the financial crisis, and yet the behemoth banks that caused economic chaos remain much as they were before – influential, opaque and potentially dangerous. It doesn’t have to be this way. Radical transparency could not only boost the industry, it could safeguard the economy. Forget “mark to market” and quarterly filings. Require every bank to report the value of its assets and liabilities on a daily basis. Don’t believe it can’t be done. Realize that it must be.

Elizabeth Warren, a Democrat from Massachusetts and newly established on the Senate Banking Committee, has already started asking tough questions of the bank regulators. She used to oversee them in her role as chair of the Congressional Oversight Panel that was created to oversee the Troubled Asset Relief Program. Among her most pointed questions is this: Why are so many publicly traded banks valued by the market at less than what they report to investors every quarter as their tangible book value?

Tangible book value is a bank’s assets minus its liabilities. It should be what you could sell the bank for, were you as fortunate as It’s a Wonderful Life’s Mr. Potter and owner of the whole shebang.

One explanation is that the collective consciousness of Main Street and Wall Street investors has coalesced around the idea that the banks are assigning too much value to their assets. Another might be that investors believe the banks are understating the extent of their liabilities. It could, of course, be a combination of both.

The right answer is certainly of interest to people who might be pondering investing in bank stocks. It’s also important to large institutions that might hire banks for money management services or enter into counterparty trades with them. These were the questions around Bear Stearns and Lehman Brothers, and when they weren’t satisfactorily and quickly resolved, it led to their failures and ushered in the financial crisis. For the economy to function, we need a way to address these concerns.

There will always be some mystery about which bank is solvent and which is not. The market system has more cloaks than daggers. But we can remove a great deal of uncertainty from the system by treating banks the way we treat mutual funds and other vanilla investment vehicles that are governed by the Investment Company Act of 1940.

When you invest in a mutual fund or exchange traded fund, the fund’s manager has to be able to provide you with the value of one share on a daily basis. If you buy or sell that day, that’s the price you pay or get for the share. It is calculated, quite simply, based on the daily prices of the fund’s underlying holdings. Generally, these are liquid stocks and bonds, but not always. Some investments, like options or shares in private companies, have to be valued based on models or investment banking opinions. Largely, the system works.

Like investment holding companies, banks are basically collections of assets and liabilities, the values of which change constantly. But bank investors get nowhere near the clarity that mutual fund investors do. At best, they are given a summation of the bank’s liabilities and assets on a quarterly basis. In a crisis, such as we saw in 2007 and 2008, this uncertainty lends itself to rumor, guesswork and panic. Had Bear or Lehman been able to point to a long history of daily net asset value reporting, perhaps some panic would have been alleviated. On the other hand, if the numbers had looked very bad, the banks would have failed, as they should have.

The banks will surely complain that this is too onerous a requirement. But the size of their balance sheets is not the issue. The PIMCO Total Return Fund, for example, does this every day, without incident, with $176 billion in assets. Fidelity, with total assets of $3.9 trillion administered over 545 proprietary mutual funds (and thousands of other funds sold through its super market), performs this task on a daily basis, without problems.

Let’s look at a larger bank like JPMorgan Chase. Its assets are listed at $2.4 trillion. Its liabilities are listed at $2.2 trillion. Fidelity deals with sums of this order of magnitude day in, day out. Bank of America and Citigroup also have similar asset and liability levels. For middle-sized and regional banks, asset levels are far lower.

It is true that, especially on the asset side, these banks own tradable instruments that could be held to maturity and, if they perform, might pay off in excess of the market value on any given day. If a bond or debt obligation is ultimately paid with interest, the investor gets the promised return, no matter what happens to the price in the interim. However, this is what bond fund managers like Dan Fuss of Loomis Sayles deal with every day. While the person building the portfolio might want the intent to hold a bond to maturity, the investor’s needs might differ.

The same is true for bank investors. They deserve to know, on a day-to-day basis, the value of the assets and liabilities of the companies they own. In some cases, this will no doubt cause runs on bank stocks. But astute investors will know whether or not management is smarter than the market and if the stock is worth owning.

Under the current system, where the balance sheet is explained only once a quarter, too much is left to imagination, rumor and hunches. With daily net asset valuation, investors will be able to make more informed and less panicked choices. If you want to prevent another financial crisis, take panic out of the equation. This kind of daily transparency would do just that.

PHOTO: Senator Elizabeth Warren (D-MA) listens to answers during a testimony while sitting on the Senate Banking, Housing and Urban Affairs Committee in Washington February 14, 2013. REUTERS/Gary Cameron

Comments
One comment so far | RSS Comments RSS

Unless I have no other choice, I will never use another bank again as long as I live.

I prefer credit unions.

Posted by LBK2 | Report as abusive
 

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