Bank capital buffers increase, still not high enough

Feb 11, 2010 21:45 UTC

Q4 TCE graphic

(To enlarge the chart above in a new window, click here.)

The superstructure of financial reform may be stalled in Congress, but at least regulators are forcing banks to raise capital. Since the nadir of the financial crisis in the fourth quarter of 2008, the Big Four have more than doubled their common equity, raising another $55 billion just in the fourth quarter.

The question is whether they’ve raised enough. With capital only a bit above early ’08 levels, especially among regional banks, the answer is most likely no.

Stepping back for a minute, it’s helpful to remember why capital is so crucial. The most important reason is that it provides a buffer to absorb losses from the asset side of the balance sheet. As assets are written down, a too-thin equity capital cushion leads to a run among creditors who race to get out before taking a loss.  Bank runs — whether the run-of-the-mill type among depositors or the high finance equivalent among short-term creditors — can quickly bring a financial system to its knees.

Luckily, regulators appear to be laser-focused on capital. Documents published in December by the Basel Committee — an international collection of bank regulators — would redefine capital in a number of productive ways.

More stringent capital requirements are also a back door way to accomplish other regulatory goals. For instance, the “size” component of the recently proposed “Volcker Rules” is designed to limit reliance on non-deposit liabilities. The more capital banks are required to hold, the smaller these liabilities.

In a recent note to clients, Jason Goldberg of Barclays Capital said the Basel proposals will…

…present onerous requirements on banks, especially the capital and leverage ratio calculations. If this ratio were to be implemented, we believe that the impact would be substantial on those banks with large derivative books, as well as those who participate in the short-term funding markets and those banks who maintain large off balance sheet commitments…

To anyone other than a banker or bank shareholder, that all sounds fantastic. But celebrations would be premature. Some proposals could get watered down or thrown out, for one.

And while the definition of capital would change for the better, Basel has yet to outline what levels of capital will be required. (It may leave this to national regulators.) If required levels are set too low, banks will continue to be vulnerable to runs.

True, the asset side of the balance sheet doesn’t look as vulnerable as it did a year ago, what with many assets written down already. But banks still seem to be sitting on big losses.

Take, for instance, second-lien mortgages. The Big Four U.S. commercial banks carried $442 billion worth as of Q3 ’09. That’s about equal to their total tangible common equity.

Second-liens like home equity loans are subordinate to first mortgages, theoretically worthless if  the value of the home falls below the balance on the first mortgage.* With a huge chunk of U.S. real estate under water, the embedded losses here are huge.

So it’s good news that banks are raising capital, and that regulators are redefining it in a way that will make it more robust. But it’s too early to claim victory. Much more capital is needed before the financial system can stand on its own.

Lunchtime Links 2-11

Feb 11, 2010 18:29 UTC

EU seals deal to help Greece, details murky (Grajewski/Toyer, Reuters) We need to know more about what help is being offered and what strings will be attached to it.

A Greek crisis is coming to America (Niall Ferguson, FT)

Google plans experiment to offer superfast web (Sherr, Reuters)

Buffett takes on Chicago chokepoint with Burlington (Lippert, Bloomberg) This article is 500 words too long, but it’s still interesting!

Immelt disagrees with Paulson’s recollection of Sept ’08 (Layne, Bloomberg) Immelt is lucky that companies like AIG and Goldman have absorbed much of the public’s bad feelings about the bailout. It doesn’t sound like Immelt is really disagreeing with Paulson, he just doesn’t remember discussing GE’s funding problems in the commercial paper market. Uh, really? The Fed created the Commercial Paper Funding Facility in large measure for GE. And GE sold $60 billion of government guaranteed paper through FDIC’s Temporary Liquidity Guarantee Program.

Fed in talks with money market funds to help drain $1 trillion (Torres/Condon, Bloomberg) Interesting….

New black hole simulator uses real star data (Muir, New Scientist)

Driving behind a hearse… (imgur)

Sausage fingers (clusterflock) iPhone users in cold places will appreciate this…

A brief history…

Lunchtime Links 2-10

Feb 10, 2010 16:26 UTC

How a new jobless era will transform America (Peck, Atlantic)

Bernanke testimony (Fed) Key line: “Also, before long, we expect to consider a modest increase in the spread between the discount rate and the target federal funds rate.” That’s not the same as raising the Fed Funds rate or the rate paid on excess reserves, but it’s the first time Bernanke has indicated policy may be tightened. Also, the balance sheet will be allowed to shrink on its own as mortgagees prepay.

For $110, godless will adopt pets of blessed after Judgment Day (DiPaolo, Bloomberg) Great story. And a great way to clear $10 grand! One of many money quotes: “With the economic downturn we’re in, I’m trying to figure out how to cash in on this hysteria to supplement my income … Given the intellectual capacity of believers this could be a gold mine!”

Chinese military officers urge economic punch at U.S. (Buckley, Reuters) Their economic nuclear option….

Eurozone holds intensive talks about Greek rescue (Sobolewski/Maltezou, Reuters) Some combination of #1 and #2 is indeed the way Europe and Greece appear to be attacking this problem. Here is an update of sovereign CDS:


How Brussels is trying to prevent a collapse of the Euro (Der Spiegel)

Google tweaks Gmail to challenge Facebook, Twitter (Oreskovic, Reuters) Should Zuckerberg fear Larry Page and Sergey Brin? Or will Buzz impact Facebook as weakly as Docs impacted Microsoft Office?

Mervyn King leaves his options open (Brereton/Hannon, WSJ) The head of the Bank of England won’t rule out more money printing to buy assets (“quantitative easing”). Not that this shouldn’t be expected.

Blast off (imgur)

Slow motion lightning….more here


The Peck article in the Atlantic on the unemployment situation that you recommend is a very good, read but it ends with two questionable statements:

“…solutions (to high unemployment) …must include…ensuring that we are creating the kinds of jobs…that can allow for a more broadly shared prosperity in the future.”

Who is the “we” and how are jobs of a certain type created? Isn’t employment the result of employers providing a service or product that is wanted and for the lowest possible production cost? Doesn’t unemployment in itself drive down labor cost? The author implies government stepping in, further reinforced by this…

“Concerns over deficits are understandable…but our bias should be toward doing too much rather than too little. That implies some small risk to the government’s ability to borrow in the future…”

Rolfe, I think all that you have been saying indicates such risk is far from small. It worries me, as I think it does you, that the bottomless government borrowing we are seeing appears to have no immediate consequences. It makes me think that a very unpleasant surprise may be coming, just as a rubber band remains intact as it is stretched, until it snaps. I think there is more faith that government can exert control over the economy in this article than is warranted.

Posted by Chicagoboy | Report as abusive

Evening Links 2-8

Feb 8, 2010 23:34 UTC

Housing rebound in Canada spurs talk of new bubble (Dvorak, WSJ) Last week Paul Krugman toasted the sobriety of Canadian banks. Among other things, he said that low rates aren’t enough to cause a bubble since Canadian rates are low and, well, they don’t have a bubble. If this article is to be believed, Krugman didn’t look closely enough. Banks may use less leverage in Canada, but low rates are encouraging households to borrow big — debt to disposable income is a bubbly 1.42x. Key quote in this piece is near the bottom, where a real estate agent notes that rising prices mean rents are only barely covering mortgage payments for real estate investments. The best definition of a bubble is when debt service payments finally eclipse rents. Then buyers/lenders are betting on continued appreciation, which can only be driven by still-easier credit. Canadian real estate appears to be headed in that direction.

Fed’s Bullard: Housing should be key in reg reform (Daly, Reuters) A good point. And the Fed should use its authority under HOEPA to make sure all mortgages are underwritten so that borrowers can make a full payment.

Fed group eyes insurance fund for repo market (Cooke/Comlay, Reuters) Insurance funds are dangerous. They have a habit of increasing moral hazard.

Fed to bare tightening plan (Hilsenrath, WSJ) Wouldn’t it be better to increase reserve requirements than to increase interest rates paid on excess reserves? The second plan pays banks to do something the Fed could simply require if it wanted to…

Hedge-funder sues to keep rent at $380 (Dealbook)

Red Mist: Who matters in China’s financial system is barely understood (Economist)

Madison WI bus driver highest paid city employee (Mosiman, WIStJournal) $159k….thanks to a great union contract.

The world capital of killing (Kritsof, NYT)

WW1 camoflauge to defeat Uboats (Twistedsifter) Fascinating.

Worst airline ad ever?

worst airline ad


“Wouldn’t it be better to increase reserve requirements than to increase interest rates paid on excess reserves?”

Yup, but that wouldn’t stealthily recapitalize banks still stuffed with toxic assets. I think they’re counting on the complexity of the issue, and “exit strategy” headline to paper over the stealth handout.

Posted by Sharpie | Report as abusive

MBA dumps 1331 L

Feb 8, 2010 17:03 UTC

Readers of this blog dating back to its days on ML-Implode, may remember our exposé about former MBA CEO Jonathan Kempner’s misadventures at 1331 L St., NW, in Washington DC. The final chapter was written on Friday when…

CoStar Group Inc., a provider of commercial real estate data, announced that it had agreed to buy the MBA’s 10-story headquarters building in Washington, D.C., for $41.3 million. The price is far below the $79 million the trade group says it paid for the glass-walled building in 2007, while it was still under construction. The price also is far below the $75 million financing that the MBA received from a group of banks led by PNC Financial Services Group Inc. to finance the purchase.

The 48% loss is a bit worse than average for commercial estate, which has declined 43% from the peak according to the Moody’s/REAL commercial real estate index.

Kempner announced the plans for the new building near the top of the market in January 2007. It quickly proved an albatross. At the time we wrote about it in 2008, MBA hadn’t found any tenants to occupy the 60% of the building it wasn’t using. To date, they’ve filled just a sixth of that space according to the Wall Street Journal.

A few days after our story, Kempner said he would resign.

Though it must have been clear towards the end of 2007 that the building would prove a costly financial mistake, MBA still paid Kempner handsomely.

According to Forms 990 filed by MBA with the IRS, Kempner made $1.4 million in the year ending 9/30/08, down only $50k from the prior year and still $250k above what he made in fiscal 2006.

Just happen to be in DC today — yes, there is A LOT of snow — and 1331L was on my walk to work…


…still lots of space available for anyone interested.


I remember that call, Rolfe well done.

Posted by Nick_Gogerty | Report as abusive

Spiking Greek CDS

Feb 5, 2010 23:15 UTC

Funny how the market is just waking up to the Euro debt problem. Many have argued that debt levels are unsustainable, yet the IMF has adopted the neo-Keynesian line that governments can spend with impunity so long as unemployment is high. If there are unemployed workers in the economy, then conventional wage-push inflation — i.e. workers negotiating higher wages, which in turn drives up consumer prices — can’t happen. Or so the argument goes.

But this ignores bond market realities. The PIIGS on Europe’s periphery — Portugal, Ireland, Italy, Greece and Spain — have huge budget deficits as a percent of GDP, but don’t have the power to print money to pay it back. So bond markets are bidding up the cost to insure their debt:

kyd77hReaders should offer their own view, but seems to me there are three options here, two bad and one nuclear.

1) The PIIGS cut their budgets to pay back debt. Such austerity programs are typically very difficult to get done in democracies. Deficit spending stays high long past the point that it’s possible to work off debt over any reasonable period. To successfully dig out of the hole requires cuts so deep, voters never agree to them.

2) Europe bails them out, which is the easiest solution in the short-run. Richer European countries certainly have the wherewithal to bail out a small country like Greece or Portugal. But it’s a dangerous precedent to set. What about Spain? It’s 14% of the Euro economy compared to 6% for Portugal/Ireland/Greece combined. If economies keep spending with an eye towards a bailout from the ECB, eventually you get #3.

3) The monetary union breaks apart. The customary way out of a debt crisis is to devalue one’s currency, see Argentina in 2001. It couldn’t maintain it’s dollar peg and still service its debt, so it devalued its currency and defaulted on debt. But this locked the country out of the international capital markets and drove them into a deep, though brief, Depression. For Greece to devalue, it would have to pull out of the Euro, pass a law that it’s debts are payable in new local currency and then devalue.

Some combination of #2 and #1 is probably the only sustainable solution. And that’s what the market appears to expect, what with Greek 5-yr CDS falling back to $389,000 from $425,000 yesterday.

But any help must come with tough conditions. Cuts must be deep enough that further rounds of bailouts won’t be needed.

UPDATE: Nick Gogerty points out that the IMF is another potential source of rescue funds. But whether bailout cash originates from the Germans or the IMF doesn’t change the fundamental problem, which is that Greek state is living well beyond its means…


Maybe the crisis will be resolved with siginificant shifts in the relationship withe public unions, a Thatcher type moment. regardless of the 3 outcomes that is realized it seems historical inflection points are in the making for many developed economies who are over leveraged, over budgeted and running out of time.

Posted by Nick_Gogerty | Report as abusive

Bank failure Friday

Feb 5, 2010 22:57 UTC

Just one small bank this week it appears…


  • Failed bank: First American State Bank of Minnesota, Hancock MN
  • Acquiring bank: Community Development Bank, Ogema MN
  • Vitals: at 12/31/09, assets of $18.2 million, deposits of $16.3 million
  • Estimated DIF damage: $3.1 million

…it isn’t 5:00 on the West Coast yet. Patience, Grasshopper…

Posted by PDXDonSmith | Report as abusive

Lunchtime Links 2-5

Feb 5, 2010 17:18 UTC

Euro debt fears roil global markets (Shah, WSJ) The U.S. is less worse than Euro economies, so Euro trouble causes flight to the dollar. Funny that we’re viewed as quality: When you factor in the debt of state and local governments, we’re in similar trouble….never mind unfunded liabilities for Medicare and SS.

Moody’s warns about U.S. credit rating (FT) These warnings have been fairly frequent.

Bernanke’s exit strategy: tighter reserve requirements (Kessler, WSJ) A good op-ed from yesterday. Another way of sequestering excess reserves, besides paying banks not to lend them out, is to just require them not to.

Unemployment rate falls despite declining payrolls (Mutikani, Reuters) The hard data, for those interested, is here.

How banks can win despite being second (Eavis, WSJ) Modifying the first mortgage frees up homeowner income to service their home equity lines of credit and other second lien mortgages…

Why we keep getting poorer: housing costs rising as % of income (Charles Hugh Smith)

Biggest bubble in history is growing every day (Pesak, Bloomberg) He’s referring to China’s reserves.

13-year-old QB commits to USC (Carrosquillo, FoxNY)

Toyota… (imgur)

New ski warnings (CollegeHumor)

Global air traffic volume (note how it varies with the sun)…


It funny that Canada still gives development aid to China when you read the article “Biggest bubble in history is growing every day”.

This would be better spent at home.

Posted by MTLCAN | Report as abusive

Bank of New York pays full price for small gain

Feb 2, 2010 22:44 UTC

By Rolfe Winkler

Bank of New York Mellon is growing – at a price. The giant trust bank on Tuesday agreed to buy PNC Financial Services’ back-office operations for $2.3 billion. That works out to 23 times annualized fourth-quarter 2009 earnings. That is a heady multiple for only a marginal boost in market share.

PNC’s shareholders seem to be getting the better end of the transaction. The sale of the PNC Global Investment Servicing (GIS) unit boosts its capital and should help it repay $7.6 billion of bailout money received from the government.

Thanks to the deal, PNC’s Tier 1 capital ratio rises to 6.7 percent from 6 percent. PNC probably needs to raise yet more equity to pay back its Troubled Asset Relief Program funds, but this is a good start.

The advantages for BNY Mellon shareholders look less certain. The bank says the acquisition complements multiple business lines. But Robert Kelly, the chief executive, seems to be coughing up too much cash for just a 4 percent gain in assets under administration. The GIS business has been lumpy. And even using last quarter’s earnings as the basis for analysis – the unit’s strongest quarter of 2009 – BNY Mellon is paying a chunky multiple.

The purchaser reckons it can squeeze out $120 million a year of cost cuts. Taxed and capitalized, those savings are worth around $720 million today. Take that off the purchase price, and BNY Mellon is still paying $1.6 billion for the GIS business – a price-to-earnings ratio of 16 times, which still looks a full price. It’s the same multiple that leading rival Northern Trust trades on, while BNY Mellon’s own shares trade at just 12 times this year’s estimated earnings.

So to sell the deal to shareholders, management is talking about between $200 million and $300 million of extra revenue based on integrating GIS into BNY Mellon. But such cross-selling opportunities often turn out to be elusive, and even BNY Mellon acknowledges they could take three to four years to transpire.

If Mr. Kelly and his crew can find a way to produce such revenue benefits, both sides eventually may be able to call the deal a success. But for now, PNC holders have more to cheer.

Lunchtime Links 2-2

Feb 2, 2010 19:13 UTC

Homeownership rate falls to 2000 level (CR) At 67.2% it’s still way overstated. Home “ownership” is a misnomer in cases when the owner has withdrawn mortgage equity or when the price of the home has fallen below the principal value of the mortgage. A better measure of homeownership, I think, is just to look at total owner’s equity as a % of household real estate. The most recent Fed Flow of Funds report (page 104, line 50) puts the figure at just 37.6%

U.S. could extend bank fee beyond 10 years, Geithner says (Di Leo/Crittenden, WSJ) The proposed tax on non-deposit liabilities should be permanent, and should target ALL liabilities, including repos. Deposits are guaranteed via FDIC. While that insurance is dramatically underpriced (witness the cash-strapped state of the DIF) at least banks pay something for it. Non-deposit liabilities are also effectively guaranteed, for the biggest banks anyway, via the promise that none which is too big will be allowed to fail. To counter moral hazard, this implicit guarantee must be taxed in order to offset any benefit derived from lower funding costs.

Must-Read: What’s a college degree really worth? (Pilon, WSJ) A lot less than you think, as argued here before. This piece is well-written with lots of good data!

AIG derivatives staff said to forgo $20 million in retention bonuses (Katz/Son, Bloomberg) They’re still well-paid, but this is better than nothing I suppose.

Deficits as a national security issueSanger NYT & Seib WSJ — Good to see prominent columnists picking up the thread. A refresher on the Suez Crisis of 1956 offers helpful background.

Rising FHA default rate foreshadows foreclosure crush (ElBoghdady/Keating, WaPo) Key line: “the FHA projects that it will pay out claims to lenders on one out of every four loans made in 2007 — the worst rate in at least three decades. The claim rate should be nearly the same on the vastly larger volume of loans made in 2008.”

Goldman spokesman’s most withering rebuttals (Daily Intel) Methinks he doth protest too much…

North Korea propaganda, with translations (nikopop)

VIDEO — Reporter filing report on the blindfold half court shot, makes own impossible shot (fox4)

Trader caught taking a break…


A better way to state the point you are trying to make would be to exclude from the “homeownership rate”, the percentage of homeowners who have mortgages that exclude the value of their homes. That is not the same as total owners equity as a percentage of household real estate that you cite from the Flow of Funds Data (e.g., some real estate has no mortgage against it).

However, not every homeowner that is underwater will necessarily ‘walk away’ so even that statistic must be haircut in order to arrive at the appropriate figure for the percentage of american households who have a desire to “own” versus “rent” their dwelling.

Posted by Hookahboy | Report as abusive

Lunchtime Links 2-1

Feb 1, 2010 19:15 UTC

President’s budget (

Barney Frank: The poor should rent, not own (Indiviglio, Atlantic)

Citigroup said to plan sale of private equity unit (Keoun/Keehner, Bloomberg) Citi cites raising cash to pay down debt as the reason to sell this unit. Of course this would also get Pandit some brownie points with Paul Volcker, who wants commercial banks out of private equity, hedge funds and proprietary trading…

HCA owners get $1.75 billion payout (Lattam, WSJ) Speaking of private equity…a nice payout for investors in one of the biggest LBOs in history.

All those little Stuy towns (Morgenson, NYT) Bullying as a business model…

Goldman Sachs and the $100 million question (Times UK) This is a thinly sourced article that claims Lloyd Blankfein will get a blowout $100m bonus for 2009. If true, talk about giving the finger to, well, pretty much everyone.

Five myths about America’s credit card debt (Manning, WaPo)

Happy palindrome day! (imgur)

Barefoot running: How humans ran comfortably, and safely, before the invention of shoes (Science Daily)

Accidental time capsule…


Regarding running, yeah, you should land (and stay) on your forefeet, not on your heel. However, you’re resting when you land on your heel (it’s like walking), so it’s more energy efficient to heel strike. This ain’t exactly new news…

At any rate, we should all forefoot striking. When I used to heel strike, I broke small bones in my feet several times, and was constantly dealing with shin splints, sore knees, sore hips. I will note, however, that the first time I went from heel strike to forefoot strike, I went from running 12 miles a pop to 1.5 miles a pop before my calves and my feet tired out and I couldn’t run anymore (forefoot striking, that is… I could still heel strike). It took me a long time to build back up, and I run about 1 mph slower forefoot striking because of the energy difference (went from 8.6 mph to 7.5 mph, body temperature limited, not cardio limited). It’s a no brainer as long as you’re not racing competitively.

You need flat running shoes to forefoot strike. Most running shoes have high heels because heel strikers need the extra cushioning, which in turn makes it harder to run on your forefeet unless you set a treadmill to incline. Something like a New Balance 758 is reasonably flat.

If one can’t forefoot strike, then I’d seriously suggest not running and hitting an elliptical machine instead.

Posted by Mikey | Report as abusive

Obama’s blowout budget

Feb 1, 2010 16:53 UTC

Now that the worst of the financial crisis is behind us, one would think the budget deficit might start to come down. Actually, no. Obama’s proposed budget sets a new deficit record — $1.6 trillion this year compared to $1.4 trillion last year.

The President thinks he can help the economy with more deficit spending. But debt is the reason we have a jobs problem in the first place. We’ve accumulated more debt than our incomes can support (see chart at bottom) so the economy is trying to pay it down, leading to less spending and higher unemployment. Adding to the debt pile only makes the employment picture uglier in the long-run.

In his blog entry introducing the budget, Office of Management and Budget Chief Peter Orszag tries to argue that the administration is working to close the deficit. Meanwhile the spin from the White House is that this budget marks the beginning of a “new era of responsibility.” Of course that’s not at all what we’re getting. Orszag even trots out the line that we can grow our way out of debt:

Economic recovery – on its own – would take our deficits from 10 percent of GDP to 5 percent of GDP.

But GDP — a measure of spending — can’t grow unless we’re spending more. Seems to me the only way for aggregate spending to grow faster than government spending is for the private sector to spend more. But households are tapped out. They’re saving more to repair already busted balance sheets.

We’ve published the following chart here at Reuters, which illustrates a key talking point for deficit doves:


At 10%, the deficit is far smaller as a share of GDP than during WWII. We’ve spent far more before, the argument goes, so it’s no trouble to spend so much today. One problem with this argument is that it ignores unfunded liabilities for Medicare and Social Security. If the budget was calculated according to the same accounting principles that apply to corporations, the deficit would look much worse. We had no such unfunded liabilities in the ’40s.

The argument is also incomplete. Americans’ total debt burden amounts to much more than what the federal government owes. Including private debt makes the picture look far worse than the ’40s:


It was easier to service higher public debt in the ’40s because de-leveraging during the Depression had wiped out most private debts.

Debt is the problem. We (should have) learned that after the Depression, yet we’re piling on more in a misguided effort to prop up an economy that desperately needs to de-lever.

Obama certainly inherited a mess, but driving us deeper into debt only compounds the unemployment problem.


The other question worth asking is what assumptions did Orszag’s team use to create the GDP growth projections? Did they assume that the past two decades of levered GDP growth is representative of what to expect going forward in a “recovery”?

Posted by Conrad | Report as abusive