November 16, 2010
It's deja vu all over again
Yogi Berra
REO is already owned by the banks. They need to decide whether to take their loss know by selling or speculate on higher prices and carry it and argue with the regulators about it. On foreclosures, need to speed up, not slow down the process. Resolution requires that the winners and losers be identified, prices set and markets allowed to clear no matter what it takes. Politicians in particular seem to think that they can somehow prevent "losses", or at least make sure the losers are savers. That includes banks in their minds. Nice thing about dot com is that the assets were easily moved and winners and losers quickly declared. But we can't move the houses, they just hang around and make it difficult to resolve the demand/supply imbalance. Real estate is not a big national clearing market. It is a bunch of little geographic markets being meddled with by politicians and banks that don't want to acknowledge losses.
William Dunkelberg
Chairman, Liberty Bell Bank
November 15, 2010
Yogi Berra
REO is already owned by the banks. They need to decide whether to take their loss know by selling or speculate on higher prices and carry it and argue with the regulators about it. On foreclosures, need to speed up, not slow down the process. Resolution requires that the winners and losers be identified, prices set and markets allowed to clear no matter what it takes. Politicians in particular seem to think that they can somehow prevent "losses", or at least make sure the losers are savers. That includes banks in their minds. Nice thing about dot com is that the assets were easily moved and winners and losers quickly declared. But we can't move the houses, they just hang around and make it difficult to resolve the demand/supply imbalance. Real estate is not a big national clearing market. It is a bunch of little geographic markets being meddled with by politicians and banks that don't want to acknowledge losses.
William Dunkelberg
Chairman, Liberty Bell Bank
November 15, 2010
This week in The Institutional Risk Analyst, we return to the financial travails of Ambac Financial Group ("AFG"), which recently filed bankruptcy after several years of twisting in the wind due to questions about solvency related to RMBS exposures. AFG, as it turns out, is the latest project of Treasury Secretary Tim Geithner, who wants to again protect the largest bank dealers and the market in over-the-counter derivatives from legal discipline. But before we wade into that swamp full of terrapins, first let's take a look at the Q3 2010 preliminary ratings for all U.S. banks from the professional version of The IRA Bank Monitor.
As of Friday we had 7,093 FDIC insured banks reporting logged in our system -- the FDIC cross checks 7,094 as of today -- and an aggregate bank stress index (BSI) score of 5.73 vs. the preliminary snapshot last quarter of 5.37. The largest bank in the group is the $143 billion asset Citibank (South Dakota), the credit card unit of Citigroup ("C"/Q2 2010 Stress Rating: "C") with an "F" rating and a BSI score of 25. That score is actually an improvement.Next is the bank unit of Ally, Ally Bank, with an "A+" rating and BSI score of 0.9 or less stress than the benchmark year of 1995.
The BSI index is a quarterly survey of stress in the entire banking industry.The rating is specifically designed for consumers with exposure above the insured limit as well as vendors facing credit and operational risks from bank failures. The BSI is a harsh measure originally designed to provide early warning indicators to bank management and focuses on the best banks -- those with stress at or below the 1995 benchmark year and with ratings between "A+" and "B" -- and rates those outside this group as essentially being unsatisfactory. The several thousand U.S. banks which have maintained "A" or better BSI ratings through the past three years are really outstanding performers.
The preliminary BSI score excludes the largest banks, which typically hold back their call reports until the last day of the reporting period, and all of the Thrifts that report separately to OTS and are later aggregated by FDIC for the RIS master file. The slight increase in preliminary stress among smaller banks may be the cause of continued volatility in the different ratings strata, with the number of "A+" institutions down almost 8% from last quarter and also a significant increase in the number of "F" rated institutions, which are banks with stress scores significantly higher than the benchmark year (1995=1).
IRA Preliminary Bank Stress Grade Distributions
1. Source for preliminary data is FDIC Central Data Repository 'CDR'. 2. Source for prior period data is FDIC RIS master file. 3. Preliminary data is incomplete. Certain bank reports are unavailable until the final publication of the FDIC master file. |
Click on the IRA Industry Fact Sheets Page �to see the ratings matrices by bank units and dollar amount of assets for the past eight quarters.
What these results suggest to us is that there is a great deal going on beneath the surface of the U.S. banking industry and, accordingly, that it is too early to declare the "all clear" from the crisis. Scores for ROE and Defaults are improving, but Efficiency is under pressure. While industry stress levels are still clearly better than the Q4 2009 peak BSI level of 24, we remain concerned by the migration of some of the larger institutions into lower ratings bands and the continued volatility of ratings for all banks. Notice in the Industry Fact Sheets the increase in the number of bank units in the "B" and "C" categories in Q3 2010 after the improvement of the past two quarters.
It is normal for the final BSI score to be significantly lower than the preliminary snapshot and for several reasons. Chief among them is that the larger banks are excluded until the final days of the reporting period. These institutions have been tending to make the industry look better thanks to subsidies from the Fed and the GSEs. But whereas during 2007-2009 the money centers were tending to bias the population down in terms of stress scores due to TARP and the subsidy flows to the big banks from the Fed and GSEs, now the big banks are moving back to their traditional position as risk outliers in the industry.
Speaking of outliers, it is no secret that we view the situation involving Bank of America ("BAC"/Q2 2010 Stress Rating: "C") and the corporation formerly known as Countrywide Financial as being problematic -- a legacy of the evil duet of Hank Paulson and Timothy Geithner at the U.S. Treasury. Some of you may have noticed that BAC just sold its securitization trust business to US Bancorp (USB/Q2 2010 Stress Rating: "A") and that no price was disclosed. Maybe there was no price. Want to buy an insurance company?
Last week in The IRA Advisory Service, of note, we examined the possible scenarios for resolving the BAC situation. Suffice to say that while the possibility of a bankruptcy for the non-BHC affiliate of BAC known as Countrywide Financial is still unthinkable, it is no longer seen as impossible by the lawyers we contacted. If the credit environment continues to fester into 2011, says one former senior regulatory counsel, strategy of BAC management saying "foxtrot oscar" to the Treasury on the way to the Bankruptcy Court may have a certain utility.
And speaking of brazen maneuvers, make sure you read Gretchen Morgenson's column on the unfolding AFG bankruptcy in The New York Times this past Sunday. "At Ambac, Haves and Have-Nots," tells the story of yet another stunning accomplishment for Secretary Timothy Geithner. It seems that the holders of credit default swaps (CDS) and municipal obligations of the underwriter subsidiary of AFGc are being given preference by the State of Wisconsin Insurance Commissioner over the holders of guarantees on RMBS.
Wisconsin insurance boss Sean Dilweg is clearly toeing the "team player" line set down by Geithner in their collapse of American International Group (AIG), namely always pay the banks and screw the bond holders and the taxpayer. In this case the taxpayers are the good people of Wisconsin. Will AFG's insurance business really survive under this allegedly "optimal" rehabilitation plan proposed by Mr. Dilweg? It looks to us like he and Geithner are cherry picking the remains of AFG's assets to pay the bank CDS counterparties and leave the sinking ship for the WI state insurance fund to clean up a couple of years hence.
Wisconsin insurance boss Sean Dilweg is clearly toeing the "team player" line set down by Geithner in their collapse of American International Group (AIG), namely always pay the banks and screw the bond holders and the taxpayer. In this case the taxpayers are the good people of Wisconsin. Will AFG's insurance business really survive under this allegedly "optimal" rehabilitation plan proposed by Mr. Dilweg? It looks to us like he and Geithner are cherry picking the remains of AFG's assets to pay the bank CDS counterparties and leave the sinking ship for the WI state insurance fund to clean up a couple of years hence.
Indeed, it appears that Geithner is once again raiding the public trust on behalf of the banksters, in this case the Wisconsin State insurance fund, to pay out CDS contracts to Citigroup and a whole slew of large foreign banks while holders of RMBS are being "segregated." We recall that at first the Irish government made payments to the German, French and UK banks who owned Irish bank debt, but now the whole country is insolvent. Now let's think: What deal was reached at the G-20 two years ago?
You see, while AFG is in bankruptcy, the State of Wisconsin is dealing with the restructuring of the insurance underwriter, Ambac Assurance Corp. ("AAC"), in a separate proceeding being held this week in Dane County Circuit Court. The insurance underwriters and their Sell Side accomplices want to avoid a default on the CDS issued by AFG at all costs, thus the CDS contracts issued by AFG were settled at a cost of roughly one-third of the funds available to pay all AAC policy holders. This preference for the large banks is forcing Mr. Dilweg and the State of Wisconsin to effectively default on guarantees made by AAC on RMBS, which were costing the carrier $300 million per month in claims.
It its legal filing, the State of Wisconsin refers to taking advice "from certain economic leaders" in making its decision to effectively subsidize some of the largest banks in the world and their customers, including Hertz and Dunkin Doughnuts, to the detriment of the RMBS holders. That's our boy Tim. We hear that at the direct instructions of Secretary Geithner, Dilweg is using the surplus funds of the WI underwriter, AAC, to unwind the CDS contracts written by the bankrupt AFG -- instead of using the state's power to abrogate all of the financial guarantees and focus all of the remaining liquidity on supporting the core municipal insurance business.
"The money went out the door even though swaps aren't typically given the same kind of seniority in a bankruptcy as traditional insurance. In a bankruptcy filing, the holders of such swaps are generally considered unsecured creditors and have to be paid after holders of old-fashioned insurance," Morgenson reports. But the key thing to understand is that the CDS contracts written by AFG apparently were guaranteed by the WI-based insurance unit AAC, using insurance contracts that are fully within the power of the State of Wisconsin to "segregate."
Indeed, fairness dictates that all of the financial claims against AAC be segregated. Yet in an affidavit filed with the Court, Dilweg argues that holders of financial guarantees such as Dunkin Doughnuts and Herz will be inconvenienced if the CDS contracts are not closed-out. But Dilweg's sworn statement seems inconsistent given that he is advantaging one class of non-insurance financial claims for another. Why are the RMBS claims inferior to the convenience of Herz and Dunkin Doughnuts? Why are CDS senior to any insurance wrap by AAC and in particular the coverage of RMBS?
The determinative factor for Dilweg�seems to be the Geithner imperative of first paying the bank counterparties in the CDS and effectively repudiating similar guarantees on RMBS, which were destined to eat all of AFG's capital had the State of Wisconsin not intervened. That economic fact of the losses on the RMBS, at the end of the day, was probably the driver behind Mr. Dilweg's sworn statements to the Court.� And how conveninent that the State of Wisconsin decides to segregate the liabilities most likely to become current.
While the filings by the State of Wisconsin seem well thought out, the fact remains that the logic of discriminating against the RMBS holders starts with the decision to pay out Citigroup and other large banks on the CDS positions. The dirty little secret revealed by the actions of the State of Wisconsin in the AAC case is that the insurance industry and captive regulators are giving equal treatment to CDS and some traditional insurance contracts, while discriminating against other financial claims.� This situation reeks of hypocrisy and conflict of interest.� Did we mention that BlackRock did the analysis supporting the State of Wisconsin affidavit.
The whole point of treating insurance as a special, state-law industry not subject to the UCC was to give regulators the power to void non-policy related financial liabilities and put the true insured parties first in line. This gets to the question posed to the G-30 back in the summer of 2007, are the global banking and insurance industries at risk to each other. They concluded that all was well, remain calm. Ha! What AFG illustrates is that the financial system is literally one event of default away from a global meltdown.
We disagree with Mr. Dilweg's pessimistic assessment of the sequestration options available to the State of Wisconsin to void all financial claims. Indeed, this case again illustrates where the Fed failed with AIG, namely to focus on the financial claims rather than taking the classical position of protecting only insurance policy holders. The investors objecting to the State of Wisconsin plan for rehabilitation of AAC correctly argue that the CDS parties were not insurance policyholders at all because AAC guaranteed AFG's obligations (the CDSs) and not the CDS parties directly.
While the State of Wisconsin does have final say in these situations because of the fact of the guarantee fund supported by all insurers licensed in the state, the apparently illegal preference given to the guarantees of parent-company CDS exposures and the unequal treatment of policy holders of the AAC insurance unit may yet cause some legal shock waves. If Mr. Dilweg and the State of Wisconsin had the courage to segregate all of the financial claims, ring fence the municipal insurance policies and dare the banks to come sue them in WI state court, we would be applauding and the markets would understand that there are still rules in some parts of America.
The handling of the AFG case by WI insurance regulators is hardly the only effort by political functionaries around the U.S. and the world to put new layers of lipstick on the proverbial pig. The sad part is that all of the political delay and obfuscation in reaction to the real estate meltdown does nothing to change the underlying reality on Main Street. The fact that regulators like the State of Wisconsin even allowed underwriters to deal in high-beta risks in mortgage credit via such vehicles as CDS tells you all that is needed about the failure of state regulation in the U.S. insurance industry.
More important, the actions of the State of Wisconsin with respect to AAC are, to us, a transparent effort to sidestep the insurance commitments to RMBS holders in favor of honoring contracts to guarantee CDS that flow through some well-connected global banks. This is AIG all over again and we think that the Court and the State of Wisconsin need to understand if Mr. Dilweg has become, wittingly or no, the puppet of Timothy Geithner, his political master and former C director Robert Rubin, and all of the large banks involved.
All of the above serves to show just how exposed the big banks remain to any issues relating to the $47 trillion OTC swap market. Why do the banks need everything to break their way? Are they not just market makers in the OTC marketplace? Or is the AFC mess once again exposing the "daisy chain" effect whereby breaking one OTC contract takes down the entire rancid system? Where is Oliver Stone?
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