From the Wall Street Journal: Citigroup executives are attempting to strike a seemingly impossible balance: Run the business in a way that will please their new federal masters, but also help the bank rebound from $28 billion in losses over the past five quarters.Yves: That is another company-serving bit of spin. Does anyone think, with pretty much all advanced economies contracting and deleveraging likely to continue, that there are great profit opportunities out there?
Thursday, February 26, 2009
A series of quarterly numbers
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there is very simple possible explanation. on bac's balance sheet for end 08 and end 07 i c about 750bio of borrrowings (short term + long term). its a bit smaller for 06/05 but only down to 550bio. over the whole period they've got about 400-500bio of short term borrowings. for simplicity lets just assume all the non-deposit funding needs to get rolled every quarter.
the us govt is now facilitating the bank borrowing short term at the treasury rate. bac cds was about 125bp average about a year ago. 125bp on 750bio for one quarter is ~2.25bio usd. their cds is now about 250bp, so 5.5bio subsidy vs where they would be ex govt assistance. yes i accept this last calculation is v v crude and bac cds would surely be much wider without any govt program -- but thats a moot point as there would probably be no bac either.
this sounds pretty consistent with many of the views you have espoused on your blog before. the govt is guaranteeing funding so the bank can grow its way out of trouble. fair enough.
but then dont say "the implied return on equity is much higher" -- its only higher as long as you believe the government subsidy will continue (i.e. the government wont take a big equity stake). if they take equity their just underpaying themselves for insurance.
im not arguing with your conslusions, i just think there is less here than meets the eye not more. govt subsidizing existing institutions, partially via non-transparent mechanisms. next.
Absolutely agree. The revenue is rising if and only if you can maintain access to funding.
The better your funding the faster your revenue is rising.
Plenty of opportunities - if you have access.
If the government is going to give you that acesss... then you have access...
The other important reason is write downs. When a fixed income instrument is impaired (OTTI) the cost basis is changed and a corporation gets to consider the new amortization schedule for calculating interest income. Big write downs = big future interest income for performing securities.
It sounds like the oligarchy is doing just fine as long as they are using our tax dollars. What would those income figures look like if they had to finance those loans from private sources of capital?
Kudos for this one.
What you call "access to funding" is nothing more than a taxpayer subsidy in the form of deposit guarantees, FDIC debt guarantees, the TAF, etc.
You aim to show that in the worst of times, banks have franchise value. In reality, you show that in the worst of times, the value of banks arises entirely from taxpayer subsidy. The difference between the two is subtle, but significant. In the first case, the banks should not be nationalized, but should be helped to "grow their way" out of their problems. In the second case, there is an argument to be made for taxpayer ownership of bank equity, as it would better reflect the true source of franchise value.
You could argue the value of the taxpayer guarantee declines over time, and therefore is not significant over the term of a DCF. I disagree with that view. The damage done to these mis-managed franchises, in the absence of a guarantee, would be long-lasting. In effect, lending spreads would be depressed for years as depositors would not trust the banks. Alternatively, the banks could jack up loan rates to compensate, and that would depress volumes and raise required provisioning (as losses are higher in a credit-starved economy).
In answer to your question, show me a country without deposit guarantees, and I'll show you an example of a country where lending spreads collapsed in a crisis.
It is not just guarantees - because banks without guarantees around the world have had widening lending spreads - albeit not as sharply widening.
If you simply have a good deposit base then your lending spread has widened.
In fact almost whatever you do your lending spread has widened.
Argentina may be a good example. I'm not sure what kind of guarantees they have, but lending spreads mask the woeful lack of banking intermediation in the economy. Lending is limited and provisioning is high. So yes, many of these countries may show positive spreads, but the underlying trend is for lending to become "subprime", with lower volumes and lower absolute profits.
In any case, do I hear you arguing that today, in the U.S., bank franchise value would be positive in the absence of taxpayer guarantees? So you think deposit rates would be...Lower? Equal? Slightly higher? Massively higher?
BTW, an instructive fact about Brazilian banks is how over-capitalized and under-levered they were during the 90's. Loan to deposit ratios were only 60% -- the rest of the balance sheet was in local currency, s.t. gov't debt. This low-risk lending could account for respectable deposit rates and therefore good lending spreads. Basically, the banks were in the business of lending s.t. to the government, and depositors gauged the risk of this lending to be acceptable. Decent loan spreads do not tell the whole story.
Adam Smith wrote that as the amount of stock available to be lent decreases, the rate at which it is lent necessarily increases (e.g. reduction in the competition to lend).
But isn't the rate at which banks lend effectively controlled and set by the Fed? or do the Fed only set a lower bound?
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