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As Bank Failures Rise, FDIC Funds Sink

fdic-cartoon-2-2The FDIC has reported the failure of 77 banks so far this year.  It is the highest rate of bank failures since the height of the Savings and Loan crisis in 1992.  The cause of the failure for many of these banks are mounting loan loses on commercial loans made to commercial real estate developers and small and mid-sized businesses (SME).   This is dramatically different from the banking crisis that unfolded in the later part of 2008.  Bank solvency was threatened due to high default rates in sub-prime mortgage loans and the erosion of  value in residential mortgage backed securities (RMBS) held by larger banking intuitions. This led to the TARP program that was created to purchase distressed assets and inject much needed capital into struggling banks.

Most of the bank failures are the result of the macroeconomic factors spawned by the recession.  High unemployment and tightening credit availability has stressed many consumer oriented businesses.  It has led to alarming bankruptcy rates of SMEs.  This has hurt community banks who have a significant portion of their commercial lending portfolios exposed to commercial real estate dependent on a vibrant SME segment.  Bank failures remove liquidity from the credit markets.  As more banks fail funding sources and loan capital are withdrawn from the system.  This is yet another dangerous headwind c0nfronting SMEs  as they struggle with a very difficult business cycle.

The FDIC is growing increasingly alarmed about the solvency of its insurance fund and its ability to cover depositors of failed banks.  This years largest bank failure, Colonial Bank Group is expected to cost the FDIC insurance fund$2.8 billion.  Its a large amount for the  stressed fund to cover in  light this years high number of bank failures and an expectation that failures will continue to rise.

According to Forbes online, the FDIC has indicated concern that the Guaranty Financial Group Inc., a Texas-based company with $15 billion in assets that racked up losses on loans to home builders and borrowers in California, and Corus Bankshares Inc., a $7 billion Chicago lender to condominium, office and hotel projects are also at risk of failing.  Each failure will place a added  strain on the FDIC insurance fund. The costliest failure was the July 2008 seizure of big California lender IndyMac Bank, on which the fund is estimated to have lost $10.7 billion.

The FDIC expects bank failures will cost the fund around $70 billion through 2013. The fund stood at $13 billion – its lowest level since 1993 – at the end of March. It has slipped to 0.27 percent of total insured deposits, below the minimum mandated by Congress of 1.15 percent.

The FDIC has a huge challenge on its hands.  It needs to maintain the orderly working of the banking system to alleviate the waning confidence of consumers and shareholders.  Recently it was announced that restrictions on private equity firms purchasing banking companies will be relaxed to assure that the industry remains sufficiently capitalized.  Regulators will need to increase oversight of community banks risk  management controls.  The added transparency may be resented by bank management but it may help to stem the tide of accelerating bank failures as the difficult conditions in the commercial real estate market persists.  In any case bankers should expect to see an increase in FDIC insurgence premiums to recapitalize the depleted fund.  Unfortunately bank customers will be burdened with rising fees banks charge for services as they seek ways to cover the rising expense of default insurance.

Bankers must become more vigilant in their assessments to determine the credit worthiness of SMEs. Sum2’s Profit|Optimizer is helping bankers assess small business credit worthiness; leading to lower loan defaults, higher profitability and more harmonious client relationships.  The Profit|Optimizer is also available for purchase on

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Risk: FDIC, banks, credit,


August 22, 2009 Posted by | banking, credit, credit crisis, economics, FDIC, private equity, real estate, recession, regulatory, risk management, SME, Sum2, TARP, Uncategorized | , , , , , , , , , , , , , , , , , , , , , , , , , | Leave a comment

$700 Billion is a lot of Guacamole!

paulsonAn article in today’s  Forbes online entitled Trouble with TARP,  reports a growing concern by the Congressional Oversight Panel (COP) about the effectiveness of the $700 billion program.  The COP reports that the effectiveness of the program is difficult to determine due to lack of transparency of how funds were spent.  The COP report also states that the absence of any reporting guidelines for TARP participants impedes effective oversight.

The 145 page report starts with a retelling of the extreme conditions confronting the banking sector as the credit crisis exploded last autumn.  It also outlines the choices confronting regulators, legislators and industry executives as the crisis deepened.  We were led to believe by Treasury and Federal Reserve officials that the global banking system was in imminent  danger of collapse.  Nothing less then immediate and drastic measures taken by sovereign government officials and industry executives would prevent the catastrophic consequences of global economic carnage.  The report makes it clear that these market conditions were so extreme that regulators were navigating through uncharted waters.  Any remediation measures taken had little historical precedence to guide actions.  Hence Paulson was given carte blanche to handle the crisis with unprecedented latitude and executive facility.

As this blog reported earlier this week, the TARP was originally designed to acquire troubled assets from banking institutions.  TARP funds were earmarked to purchase mortgage backed securities and other derivatives whose distressed valuations severely eroded capital ratios and stressed banks balance sheets.  Hank Paulson later shifted the strategy and decided to inject TARP funds into the banks equity base.  This has done wonders for the shareholders of the banks but troubled assets remain on the banks balance sheet.  As the recession continues,  unemployment, home foreclosures, SME bankruptcies and the looming problem with commercial mortgage backed securities  (CMBS) are placing a new round of added strain on the banking system.

The TALF program is designed to draw private money into partnership with the government to acquire troubled assets from banks.  So far the program has received a tepid response.  I suspect that the principal factors inhibiting the expansion of the TALF program are numerous.  Chief among them is the inability of FASB to decide upon valuation guidelines of Level III Assets.  Banks holding distressed securities may also be reluctant to part with these assets because they have tremendous upside potential as the economy improves.

The COP also questioned the effectiveness of TARP because stress tests were only conducted on 19 banks.  The report states that additional  stress tests may be required because the previous tests failed to account for the length and depth and length of the recession.   Community banks are also of concern.  They face a perfect storm in challenging macroeconomic conditions.  Of particular concern is commercial real estate loans.  Many economists are concerned that high rate of loan defaults in commercial loan portfolios pose great threats to the community banking sector.

Though interest rates remain low due to the actions of the Federal Reserve,  lending by banks still remains weak.  SME’s are capital starved and bankruptcy rates are quickly rising.  SME’s are critical to any economic recovery scenario.  A strong SME sector is also crucial for a vibrant and profitable banking system.  Perhaps a second round of TARP funding may be required to get more credit flowing to SME’s.  If banks start failing again it would be devastating.  The Treasury and the Federal Reserve don’t have many bullets left to fire  because of all the previous expenditures and a waning political will of the people to continue to fund a systemically damaged banking system.

Risk: banks, SME, economy, credit, market

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August 13, 2009 Posted by | banking, credit crisis, economics, FASB, Paulson, real estate, recession, regulatory, SME, TALF, TARP, Treasury, Uncategorized, unemployment | , , , , , , , , , , , , , , , , , , , , , , , , , | Leave a comment