Warning: Megabanks Could Fail Despite Federal Aid
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The time has come to issue one of my sternest warnings to date: Bank of America and Citigroup could fail despite the most radical government rescues of all time.
Right now, after recent close calls with instant death, these two megabanks are on life support, receiving massive transfusions of government capital. But they’re still hemorrhaging, and no one in Washington has found a cure.
Already, they have received capital injections of $90 billion ($45 billion each).
Already, this bailout is larger than the total combined capital of PNC Bank, Suntrust Bank and State Street Bank — all among America’s ten largest.
Yet, ironically, that $90 billion is still a drop in the ocean compared to their massive exposure to risky assets.
The shocking facts revealed in the banks’ own balance sheets and in the OCC’s Quarterly Report demonstrate the enormity of problem:
Massive Risks at America’s Megabanks (bill. of dollars) | ||||
B of A | Citi | B of A + Citi | JPM | |
9/30/2008 Total assets | 1,831 | 2,050 | 3,881 | 2,251 |
All derivatives | 38,186 | 39,979 | 78,165 | 91,339 |
Credit default swaps | 3,291 | 2,467 | 5,758 | 9,250 |
Exposure to defaults by trading partners | 177.6% | 259.5% | 400.2% | |
Fact #1. Too big to save. Bank of America Corp. and Citigroup, Inc. have combined assets of $3.9 trillion, or 43 times the size of the Treasury bailout funds they’ve received to date.
Fact #2. Bigger losses ahead. Even before any further declines in the economy, an unusually large portion of their assets are already in grave jeopardy — commercial real estate loans going sour, credit cards loans tanking, auto loans sinking, and residential mortgages turning to dust. Now, as the economy continues to tumble, avoiding much larger losses will be almost impossible.
Fact #3. Big derivatives players. Bank of America and Citigroup are the nation’s second and third largest high-rollers in the derivatives market, with a combined total of $78 trillion in these bets outstanding. That’s over ten times the derivatives that Lehman Brothers had on its books when it failed last year.
Fact #4. They’ve bet far too much on each other’s failure. Bank of America and Citigroup are also the second and third largest participants in the most dangerous derivatives of all — credit default swaps. These are the big bets that financial institutions make on the failure of other major companies.
But participants in this market are like shipwrecked sailors in a sinking lifeboat betting fortunes on who will live and who will survive: If a company bets too heavily on failures and too many companies actually fail, who’s going to make good on those bets?
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And unfortunately, betting on each other’s demise in huge amounts is exactly what the nation’s megabanks have done. At their latest reckoning, Bank of America and Citigroup held credit default swaps with notional values of $2.5 trillion and $3.3 trillion, respectively. (SeeOCC report, pdf page 23.)
Total between the two: An astounding $5.8 trillion!
This number is not directly comparable to capital. But just to give you a sense of the magnitude of the problem, Bank of America and Citigroup’s combined credit default swaps are more than sixty times larger than the $90 billion they’ve received so far in capital infusions from the Treasury Department.
Fact #5. JPMorgan Chase is not far behind. Right now, Washington and Wall Street are still counting on at least JPMorgan Chase to pick up the pieces after major failures and shotgun mergers.
But according to the OCC, among the three megabanks, JPMorgan Chase is actually themost heavily leveraged, with over 400% of its capital already exposed to the risk of default by trading partners. Bank of America’s and Citigroup’s exposure (177.6% and 259.5%, respectively) is also wild, but JPMorgan Chase’s exposure is obviously far greater.
Fact #6. JPMorgan Chase’s derivatives could double the size of the banking crisis overnight. On the day that JPMorgan Chase needs to join the ailing Bank of America and Citigroup in Uncle Sam’s intensive care unit, the derivatives mess doubles immediately.
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Reason: The bank has $9.2 trillion in credit default swaps, almost twice as much as Bank of America and Citigroup combined.
Fact #7. Stocks crashing. Shares in failed banks are worth zero, and that’s where Bank of America’s are headed. Citigroup’s are already close, making it almost impossible for the company to raise capital from investors.
In light of these facts, how can the government save America’s megabanks?
Wall Street is hoping that the Obama administration will create a separate, government-run “bad bank” to take bad assets off their hands. And some pundits are even proposing that the U.S. government nationalize the big banks in trouble. But …
- Neither approach addresses the obvious reason our nation’s banks are in the ICU to begin with: Excess debts and risk-taking. In fact, these “solutions” would merely pile on more of the same. Meanwhile …
- Both approaches spread and transform the contagion from a Wall Street debt crisis into a Washington debt crisis, as the federal deficit explodes to as much as $2 trillion in fiscal 2009.
My Forecast: Washington Will
Ultimately Lose This Epic Battle!
No matter what the government does, it cannot patch back together the busted market for mortgages, derivatives and especially credit default swaps.
It cannot stop a pandemic of loan losses among large AND small banks as the economy sinks and traditional bank lending goes bad.
It cannot stop the contagion of falling confidence, fear and panic. It cannot outlaw gravity or stop investors from selling. Nor can it turn back the clock and reverse years of financial sins.
So don’t count on Uncle Sam to save your bank, your business, or the economy.
Keep up to 90% of your money in cash.
Avoid bank deposits as much as possible, using mostly short-term Treasury bills or equivalent.
Above all, focus on building up your own resources and finding alternative sources of income or profits. For specific instructions on precisely how, click here for our free one-hour video, “7 Startling Forecasts for 2009.” But you don’t have much time; it goes offline tomorrow.
Good luck and God bless!
Martin
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