'Banking' Archive
We all know that 2008 has been a tough year for banks. But forget the heavy real estate- and mortgage-related losses endured by the big boys; entire institutions are going under. Eight have failed so far this year, and four have been taken over by the FDIC in the last month alone. By comparison, only three banks failed in all of 2007, and none did in 2005 or 2006.
The latest was small Florida-based First Priority Bank, which fell into receivership on Friday. Superregional SunTrust Banks assumed control of First Priority’s six branches and some $200 million in customer deposits. The week before, California’s First Heritage Bank and First National Bank of Nevada were closed by the Office of the Comptroller of the Currency, and Mutual of Omaha took over the banks’ deposits. The most spectacular collapse this year, of course, was IndyMac Bancorp, which was seized by the FDIC on July 11 and filed for Chapter 7 bankruptcy on Friday. It is the third-largest bank failure in US history.
So what happens when the FDIC steps in? It usually does so on a Friday, so it can take care of business over the weekend, and gives no advance notice, as to not incite panic and a run on the bank. Customers with FDIC-insured deposits (up to $100,000) usually can access their accounts as normal (by check, ATM or debit card, or online), or at a branch when the bank reopens on the following Monday, either under FDIC supervision or by an acquiring bank.
We surely have not seen the last of the bank failures. Indeed, the man who some think shoulders some of the blame for the current mess says there are more to come. The FDIC maintains a watch list of around 90 banks that it deems “troubled”. It doesn’t share its list with the public, for obvious reasons, though some analysts have their own opinions about which banks may be included. Most are small institutions, similar in scale to First Priority.
Of course, with everyone so skittish, naming names can get one in trouble too. Ladenburg Thalmann financial services analyst Richard X. “Dick” Bove was sued by BankAtlantic for suggesting that the bank and its parent company BFC Financial could be next to go under.
The drumbeat of bad news continues for Wachovia, the fourth largest bank in the US. New CEO Bob Steel, the former undersecretary of the US Treasury who joined the company two weeks ago, certainly has his work cut out for him. The company announced Tuesday that it posted losses of nearly $9 billion in the second quarter of 2008, wrote off some $6 billion in assets, set aside more than $5.5 billion to cover future losses, is cutting dividends by 90%, and is eliminating approximately 10,000 jobs, including the layoffs of more than 6,300 employees.
At the crux of Wachovia’s troubles are so-called Pick-A-Pay mortgages, which allow borrowers to choose one of four monthly payment options. The bulk of these loans, most of them acquired when Wachovia bought Golden West Financial in 2006, are secured by homes in the hard-hit Florida and California real estate markets. The default rate of Wachovia’s $122 billion worth of Pick-A-Pay loans is hovering around 6%, and the company says that figure could balloon to 12% by 2009. (The national average for all mortgage defaults is currently around 1%.)
Wachovia has already raised more than $8 billion in capital from investors in 2008 alone, but may also be compelled to divest some of its operations in order to bring in more money. The most obvious candidate to be sold, according to some analysts, is the company’s Wachovia Securities subsidiary. It is perhaps Wachovia’s most successful business, though it has seen its assets under management dwindle by some 10% since its acquisition of A.G. Edwards last year. What’s more, Wachovia Securities’ St. Louis headquarters were raided last week by Missouri state regulators seeking information on the unit’s sales, pricing, and marketing of auction-rate securities after the market for the arcane financial instruments collapsed in February. [UPDATE: Please see the comment from Wachovia spokesperson Teresa Doughery regarding the state's actions.]
For its part, Wachovia is determined to weather the storm. Still, JPMorgan Chase is mentioned as a possible buyer of Wachovia Securities, if not all of Wachovia.
We have this idea that the US economy is based on the free market system. The SEC’s new rule against naked short selling for certain companies and entities sure puts paid to that belief.
In short sales, an investor borrows shares of a company, sells them, and hopes the stock price later drops before he has to pay back the shares. It’s a classic instance of selling high, buying low.
In naked short selling, the investor doesn’t borrow the stock first. Less risk, so more reward — if the stock does fall as expected.
The rule has already raised a chorus of complaints from financial services firms that aren’t on the safe list. It also is probably not the right way to restore stability to the market. Granted, the horse is already out of that barn, but the best way the SEC and the Fed could have stabilized the market was to have put the brakes on the bubble in the first place. But oh no — we have a free market, right? No market interference here.
Gretchen Morgenson of The New York Times has a trenchant article on just this topic. She writes:
HERE is a question: Might not the routs, which inevitably follow the manias, be less painful if things were not allowed to get wild and crazy on the upside? Might not the American people be better off with regulators who curb market enthusiasm — whether in the form of errant lending or voracious, ill-considered deal making — when it reaches manic levels, to protect against the free fall, and the bailouts, that ensue?
Since the Fed has no problem with regulating some of the markets some of the time with rules that only apply to certain companies and certain investors, why not drop the pretense of the free market completely and create different regulations that are designed to do exactly what Morgenson suggests — regulate on the upside too?
If that is unpalatable, then when a Bear Stearns, a Lehman, or a Freddie and a Fannie look like they are failing, let the free market take its course.
Banks and mortgage holders are bracing themselves for the next wave of foreclosures as ARMs reset. What some other industry veterans are also bracing for is a wave of fires.
Bloomberg quotes James Quiggle, a spokesman for the Coalition Against Insurance Fraud, who states, “Home arsons follow foreclosure trends, with a lag. We’re facing a potential spike in arson like we’ve never seen before.”
According to housingwire.com, many homeowners whose homes have been foreclosed on damage the property before they leave. Punching holes in the drywall is often the least of it. Arson could be the worst, and if Quiggle is right, we’ll see a lot more of it.
So what does this mean? Neighborhoods are already suffering as more and more houses are left vacant. Vagrants move in, causing damage; untended lawns and properties lead to deterioration, which in turn affects the entire block.
An Atlantic Monthly article discusses what happens when suburban neighborhoods empty out, and it’s not pretty. Across the country, property and other crime rises in unlikely suburbs, leading to an unexpected irony; homeowners who fled cities because of crime and poor schools are now leaving the same conditions in their wake.
So what happens now? Will suburban communities recover? As neighborhoods deteriorate and gas prices continue to rise, will people make the return journey and head back to the cities? What will happen to the schools, the tax base, and infrastructure (roads, sewer, fire, and police)?
Here’s one solution. Mortgage holders don’t want to foreclose on homes. When there are just a few foreclosures it’s a costly headache, so the current deluge is unmanageable, whether banks admit it or not. So what if, instead of removing the homeowner, the mortgage can be rewritten as a rental contract? Obviously the bank will take less money in rent than a house payment, but it will keep the house occupied and kept up, the property stabilized, and the neighborhood a little bit safer.
Better to keep a fire from starting than to have to put it out.
With Bear Stearns safely in JPMorgan Chase’s pocket, and Lehman Brothers on the ropes, investors have been eyeing the weak and making their move. Carlyle Group just formed a new fund to invest in distressed investments, and has had no trouble getting investors to chip in. Somewhat ironically, Carlyle was on the distressed side of things itself when Carlyle Capital went under this year, a victim of anxious creditors.
Not to be outdone, Cerberus Capital Management also announced a new distressed assets fund, and other investment firms have also been making deals.
One distressed asset out there is Wachovia. The superregional bank acquired Golden West, which specialized in adjustable rate mortgages, primarily in California, one of the worst-hit states. The bank has been roiled by the credit crisis. It exited the subprime market, cut several hundred jobs, and ousted its CEO. It will be interesting to see which of the funds dares to touch this hot potato.
It may be that investors will hold off until they see what happens with the Bank of America acquisition of Countrywide Financial. The deal will make Bank of America the biggest mortgage lender in the country, but Countrywide is in some serious trouble. The mortgage giant was heavily wounded by the subprime mortgage crisis, and Bank of America’s agreement to buy the company is a way to protect its existing investment. It had already invested $2 billion in the company when the mortgage crisis hit in 2007.
One thing is for certain — these distressed asset funds have plenty of potential targets to choose from. Whether these buyers are preditors or rescuers is very much in the eye of the target company. Whether they are making wise deals is another story.