Bloomberg (emphasis added):
Myron Scholes and Robert Merton shared the 1997 Nobel price for economics, and they are now united in calling for banks to give more accurate valuations on their illiquid assets….Banks that oppose new accounting standards on asset values want to conceal depressed prices, Merton wrote in the Financial Times yesterday. He composed the column with Robert Kaplan, a professor at the Harvard Business School along with Merton, and Scott Richard, a professor at the University of Pennsylvania’s Wharton School.
From the FT comment by Merton (emphasis added):
Legislators and regulators fear that marking banks’ assets down to fair-value estimates will trigger automatic actions as capital ratios deteriorate. But using accounting rules to mislead regulators with inaccurate information is a poor policy. If capital calculations are based on inaccurate values of assets, the ratios are already lower than they appear. Banks should provide regulators with the best information about their assets and liabilities and, separately, allow them the flexibility and discretion to adjust capital adequacy ratios based on the economic situation. Regulators can lower capital ratios during downturns and raise them during good economic times.
Bank regulators (FDIC and the Federal Reserve) don’t listen to Nobel prize winners much – they don’t have enough political clout and are not usually big hitters in the banks that control them. The regulators are obviously in cahoots with the banks to “conceal depressed prices” – so it’s inaccurate to think that the regulators are “mislead”. The banks and the regulators will, of course, fight Merton’s and Scholes’ suggestions to the death – perhaps (in a financial survival sense) literally…
Jonathan Weil has a piece pointing out that most of the banks would have negative equity when the fair value shown in their footnotes this quarter is used to figure equity instead of carrying the value the banks assume based on the fiction that the banks will keep the loans until maturity. He using Regions Financial as his example.
The FDIC doesn’t have enough funds to wind down even one of these regionals – that’s why we haven’t seen any banks closed down on Friday lately (e.g. Colonial BancGroup Inc) – the government doesn’t want ChairBair to ask Congress to approve an increase in her line of credit from the Treasury for fear of starting a panic. So… the government simply looks the other way while all the banks continue to operate without sufficient capital and hoping the problem will be fixed over time by giving the banks a license to steal in the stock market. Tyler Durden puts it this way:
The obvious question arises: why on earth is Regions Financial still allowed to exist and sucker more investors into believing it is anything even remotely close to a viable entity. In fact, as Weil points out, the government continues to classify Regions as “well capitalized.”
…At the end of the day, Weil is correct that at least now these zombie financials make available the data that investors can use on a quarterly basis (if the latter were so inclined, of course) to uncover just how ugly the real picture below the surface for all these firms is.
And George Washington summarizes the situation this way:
If the toxic assets are such a problem, why hasn’t the government done anything about them? Because, the government’s entire strategy in dealing with the economic crisis has been to try to artificially prop up the prices of the toxic assets. Everything Summers, Geithner and Bernanke have done is to try to pretend that the toxic assets aren’t really that toxic. See this.
There will be a day of reckoning. This cannot indefinitely be swept under the rug…
WSJ reports that the Treasury has committed to give TARP funds to several Life Insurance companies:
“The life-insurance industry is an important piece of the U.S. financial system. Millions of Americans have entrusted their families’ financial safety to these companies, so keeping them on solid footing is crucial to maintaining confidence. If massive numbers of customers sought to redeem their policies, it could cause a cash crunch for some companies. And because insurers invest the premiums they receive from customers into bonds, real estate and other investments, they are major holders of securities. If they needed to sell off holdings to raise cash, it could cause markets to tumble.”
“Life insurers had for a time seemed to be somewhat immune from the credit crisis, since they tend to invest in relatively safe assets in order to match their liabilities. These companies got into trouble for two main reasons, both tied to the weak financial markets.
First, many of the roughly two dozen insurers that dominate the variable-annuity business made aggressive promises on these popular retirement-income products, guaranteeing minimum returns, no matter what happened to the stock market. With the market’s decline, the issuers are on the hook for big payouts, though most of the payments won’t come due for 10 or more years. Second, the insurers also have lost money on the investments in bonds and real estate that back their policies.”
Pre-market prices of many Life companies are up this morning. It seems sad that stock prices react positively to news that more companies need federal bailouts. The Insurance companies will now be subject to the same (uncertain) executive pay restrictions and other possible political whim as banks who take TARP money. The oligarchy’s control written about by Simon Johnson is expanding…
It’s perhaps not surprising, but notice that the new flexibility of the Life companies to value their asset prices according to “mark to fantasy” is not forestalling the need for real cash.
“Debt protection costs on Citigroup Inc (C.N) hit record highs on Wednesday, ahead of a vote on a proposal to give banks more leeway on how they should apply mark-to-market accounting standards.
The accounting, in which assets are marked to their current market value, has been criticized for exacerbating market woes as extreme illiquidity in markets depressed debt prices.
Bank of America’s (BAC.N) debt protection costs also rose to around 400 basis points, up from 395 basis points on Tuesday, according to Markit.
Some analysts view modifications to mark-to-market accounting as risky as it will allow banks to create their own values for securities, which could increase distrust over assets held on their balance sheets.
“We still know the ‘stuff’ is on the balance sheets and if the financials are actually allowed to adjust capital based on unreal marks then who will ever buy financials again,” Tim Backshall, chief strategist at research firm Credit Derivatives Research said in a report.”
If we get a pop from a change in MTM today, it will mean more separation between the credit markets and the equity markets. Which is right? We are going with the credit markets on this one…
If you can keep your head when all about you suckers are buying bank stocks based on smoke the Dimon’s and Pandit’s blow…
If you can watch Tangible Common Equity when all about you suckers accept the Tier 1 Capital fantasy that FASB wants to allow…
If you can focus on Comprehensive Income when all about you suckers fall for whatever the bank wants to report for Net Income…
Then, while all about you suckers are asking for bailouts from FED, Treasury or SIPC, you’ll be rich, my son, and then some.
copyright J.D. Swampfox, March 20, 2009
