Bank Failures Driving FDIC to Insolvency

The 'Helicopter Economics Investing Guide' is meant to help educate people on how to make profitable investing choices in the current economic environment. We have coined this term to describe the current monetary and fiscal policies of the U.S. government, which involve unprecedented money printing. This is the official blog of the New York Investing meetup.


In December of 2009, the FDIC ordered U.S. banks to make three years of prepayments to its deposit  insurance fund. It looks like the FDIC has already blown through the $15.33 billion it collected at the end of last year and will soon be needing its own bailout.

As of July 16th, 96 U.S. banks have failed. The total was 86 at the end of the first six months of the year. A simple doubling of the number would indicate that there will be 172 failures this year. Estimates though are for around 200. More failures took place in the second half of the year in 2009. Total failures for 2009 were 140 compared to only 25 in 2008 and 3 in 2007. There is no question that the number of failures will be greater once again in 2010.

The FDIC maintains a troubled bank list and there are 775 banks on that list as of the end of the first quarter. That was up from 702 in the fourth quarter of 2009. Since failed banks are removed from the list, this indicates that more banks are getting into trouble than the number failing. As long as this continues to happen, the U.S. banking system is deteriorating further. Commercial loans going sour are now being added to the problem of too many bad residential real estate loans.

Investors should not be fooled by comparisons of current U.S. bank failures with the number of failures in the past. In the early 1900s, there were a very large number of small banks in the country. Over the last 80 years, U.S. banks have become much larger and far fewer in number so only a percentage comparison makes any sense. During the Great Depression, 9146 banks failed. That would represent over 100% of the 7932 banks that now exist. Even during the Savings and Loan Crisis there were more than twice as many banks in business than there are now. The total number of failures for the Depression and Savings and Loan Crisis are also for a period of up to 15 years. So we will have to wait until 2023 to see if banking failures are or aren't as bad now as they were during past crises.

We are not likely to have to wait very long however to see if the FDIC needs a government bailout for the first time. The FDIC states very clearly on its website that its operations are funded through member banks and it doesn't require taxpayer money. Well accepting a "loan" from the federal government or whatever they will call the bailout is taking help from the taxpayer. For a long time, I have been predicting that this event will be taking place in the fall of 2010. As of now, it looks like the FDIC may have trouble holding off insolvency even until then.

Disclosure: No positions.

Daryl Montgomery
Organizer, New York Investing meetup
http://investing.meetup.com/21

This posting is editorial opinion. Like all other postings for this blog, there is no intention to endorse the purchase or sale of any security.

Future U.S. Bailouts - FHA, FDIC, PBGC, U.S. States

The 'Helicopter Economics Investing Guide' is meant to help educate people on how to make profitable investing choices in the current economic environment. We have coined this term to describe the current monetary and fiscal policies of the U.S. government, which involve unprecedented money printing. This is the official blog of the New York Investing meetup.

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There is no end in sight for U.S. bailouts stemming from the Credit Crisis. Once you've bailed out wealthy Wall Street bankers (and there are a handful of Federal Reserve programs for this in addition to $700 billion TARP program), it isn't politically tenable to say no to pensioners, savers, homeowners. and local governments. It should be kept in mind that the Credit Crisis didn't create the problems, but merely exposed the rot in the system that had been there for many years. As Warren Buffett most famously said, "you only know who's swimming naked when the tide goes out". Well, a lot of U.S. government operations have been swimming naked for years and the Credit Crisis caused the tide to go out.

The problems center around housing, banking, pensions, and government operations that don't have the money printing ability of the federal government. The government already nationalized massive housing loan entities Fannie Mae and Freddie Mac in 2008 and these have become bottomless pits for government aid. Fannie lost $18.9 billion in the third quarter of this year and requested an additional $15 billion in funding. Things would be even worse, if much of the loans that had previously been handled by Fannie and Freddie weren't now being insured by the FHA (Federal Housing Administration). The FHA is now backing loans that would have made a crooked subprime mortgage broker blush in the heyday of the housing bubble. When it comes to getting FHA insurance these days, bad credit, a spotty work history, and even a previous foreclosure aren't deal breakers. Not surprisingly, FHA finances are spiraling downhill fast and warnings about a need for a bailout are already becoming louder.

The FDIC has temporarily solved its need for a bailout, with temporarily being the operative word. On November 12th the FDIC mandated that banks pay three years of their insurance premiums up front. This will provide the FDIC's insolvent bank deposit insurance program with an immediate cash infusion of $45 billion. Unfortunately, the FDIC itself estimates that its funding needs will be $100 billion in the next four years. Assuming they only need that amount (which is possibly very optimistic), they will still have a serious short fall. There have been 123 U.S bank failures as of mid-November and the ones on November 13th cost the FDIC approximately a billion dollars. That's for just one week. At that rate, the FDIC would be out of money again in 45 weeks.

The PBGC (Pension Benefit Guaranty Corporation), a government chartered company that insures U.S. pensions is another operation which is heading toward a bailout. In its 35 years of operation, it has lost money in 29. Losses have even taken place when the U.S. economy was strong and the stock market rallied. In bad years, the PBGC loses even more money. So far in 2009, it has taken over 144 failed pension programs compared to 67 in 2008. It was $22 billion in the red this year. According to an inspector general's report, the PBGC's former director was alleged to have had improper contacts with Wall Street. When questioned by a congressional panel, he took the Fifth Amendment (refusing to answer because it might incriminate him). Fannie Mae and Freddie Mac executives also had serious ethical problems. Corruption and bailouts seem to go hand in hand.

While California's budget woes are well known, there are nine other U.S. states that are in serious financial trouble and an additional ten not far behind them. California has a $121 billion budget gap and is resorting to IOUs to make payments. According to the Pew Center, the nine other states in serious trouble are Arizona, Michigan, Nevada, Florida (states hit hardest by the housing downturn along with California), Rhode Island, Oregon, New Jersey, Illinois and Wisconsin. High unemployment and reduced business activity have caused tax receipts to plummet and are behind the current fiscal distress. There is little evidence the problem is getting better despite claims by the federal authorities and mainstream economists that the recession is over. The federal government has the same problem as the states, but it just prints money to make ends meet. While the feds can bail out the states, who's going to bail out the U.S. when money printing doesn't work anymore?

NEXT: The Art of Inflation

Daryl Montgomery
Organizer,New York Investing meetup
http://investing.meetup.com/21

This posting is editorial opinion. Like all other postings for this blog, there is no intention to endorse the purchase or sale of any security.

Making a Silk Purse Out of a Sow's Ear

The 'Helicopter Economics Investing Guide' is meant to help educate people on how to make profitable investing choices in the current economic environment. In addition to the term helicopter economics, we have also coined the term, helicopternomics, to describe the current monetary and fiscal policies of the U.S. government and to update the old-fashioned term wheelbarrow economics.

Our Video Related to this Blog:

The U.S. Treasury revealed its latest plan to rescue the collapsing financial system today. I have lost count of which number rescue initiative this is since there have been so many in the last year and a half. The need for a another new plan indicates the lack of success of all the previous plans that were supposed to fix things. Despite spending trillions of dollars so far, the government has not managed to get control of the problem - and for good reason. Essentially, all the government programs are geared toward making worthless assets worth something. If this is the goal, Harry Potter should be running the Treasury department instead of Timothy Geithner.

The latest idea is to take $75 to $100 billion (multiply this number many times) from the Troubled Asset Relief Program, aka TARP, and combine this with capital from private investors to buy up the toxic assets that are owned by the banks. Treasury claims that private investors participating in the new program could lose their entire investment in some cases and the taxpayer could share in profits (my guess is the chances of either are minuscule). The FDIC, which is close to being insolvent itself, will provide a guarantee for this public-private investment funding. It was not mentioned how the FDIC would be bailed out if any significant amount of these asset purchases went bad.

Under the Treasury plan, private-sector participants will compete to establish a price. Treasury claims that the public-private partnership is superior to a "bad bank" approach because because under the "bad bank" approach taxpayers would take on all the risk, and government could overpay for the assets (as if these two things aren't happening in their alternative approach). Treasury said that it expected a "broad array" of investors to participate in the program, including insurance firms (even though this industry itself is about to need a bailout - participating in this program should help push it over the edge). Treasury also claims that its new plan is designed "to make the most of taxpayer resources." This of course begs the question: What were the previous plans designed to do?

The ultimate goal of the latest, greatest, newest, improved government financial rescue package is to get banks lending again. As with all the other failed rescue packages, this is being done indirectly by attempting to solve some related issue and presuming that this will somehow magically jump start lending (the cause effect connection between the two is usually missing). The new plan is trying to restart trading in 'legacy securities'. The market itself has valued these as worthless and indicated that these are inherently non-viable financial instruments. Nevertheless, the government thinks it knows more than the market and insists on pouring more and more money into this financial black hole. Even though every previous attempt has failed, it is always hopeful that the next one will work. As I have said many time, nothing succeeds like failure in Washington. Where is Harry Potter when we need him?

NEXT: Print Enough Money, Everything Goes Up

Daryl Montgomery
Organizer,New York Investing meetup
http://investing.meetup.com/21

This posting is editorial opinion. Like all other postings for this blog, there is no intention to endorse the purchase or sale of any security.

Employment Losses Revealed After the Election

The 'Helicopter Economics Investing Guide' is meant to help educate people on how to make profitable investing choices in the current economic environment. In addition to the term helicopter economics, we have also coined the term, helicopternomics, to describe the current monetary and fiscal policies of the U.S. government and to update the old-fashioned term wheelbarrow economics.

Our Video Related to this Blog:

When post-election government economic reports are released in the next several months, don't be surprised if conditions are much worse than those reported before the election. This shouldn't be interpreted as conditions having actually significantly deteriorated (although this is probably happening as well), but that there is now less motivation for the Bureau of Labor Statistics (BLS) to fudge the figures to make them look better. The Employment Report released this morning is a case in point. While this report generally contains more fantasy than a Harry Potter novel, apparently there is some limit to the BLS's job conjuring . Now that the election is over, we find that unemployment shot up significantly in October and job losses for August and September were much higher than originally reported. Must be 'coincidence' that they missed reporting on those bigger job losses before people voted.

While the unemployment figures are still grossly understated, they are bad enough as is. A loss of 240,000 jobs took place in October and the official unemployment rate rose to 6.5% from 6.1%. September's job losses were revised upward to 248,000 from the previously reported 159,000 and August now has a loss of 127,000 jobs instead of 73,000. So far the number of jobs have shrunk every month this year and according to the BLS, the total loss is now 1.2 million. The official unemployment rate is now as bad as it got in the 2001 recession and is heading toward the higher levels of the 1991 recession (as you go back in time, each recession was worse in the U.S. until 1974).

Evidence that the BLS is underreporting unemployment can be found in the statistics for the number of people collecting unemployment insurance. It has already hit a 25 year high of 3.84 million, a level last reached in the devastating 1982 recession. Unemployment is paid by the states and there are already five states with insolvent unemployment trust funds and another eight states teetering on insolvency. To handle this situation, the federal government has been 'lending' the states money at very low interest rates. For their part, the states are trying to raise unemployment insurance rates paid by companies, many of which are having serious financial problems of their own (many states lowered unemployment insurance taxes when the economy was good and companies could afford to pay more). Few things are more certain than a number of state unemployment trust funds will need a major bailout by the federal government in the not too distant future.

While it should be axiomatic that a growing economy creates jobs and a deteriorating economy losses jobs, the U.S. government still has not acknowledged a recession exists even after 10 months of steep job losses. More proof of recession can be found in weekly unemployment claims. These were 481,000 last week and have been over the 400,000 level, usually considered the cutoff for an economic decline, for a long time. Perhaps now that the election is over one of the government's other great works of fantasy, the GDP report, will start to veer closer to reality.

NEXT: China Bails Out Asia - at Least for Today

Daryl Montgomery

Organizer, New York Investing meetup

http://investing.meetup.com/21

This posting is editorial opinion. Like all other postings for this blog, there is no intention to endorse the purchase or sale of any security.

Ron Paul on the Wall Street Bailout Plan - Part 2

The 'Helicopter Economics Investing Guide' is meant to help educate people on how to make profitable investing choices in the current economic environment. In addition to the term helicopter economics, we have also coined the term, helicopternomics, to describe the current monetary and fiscal policies of the U.S. government and to update the old-fashioned term wheelbarrow economics.

Today's Blog: Congressman Ron Paul's insights on the proposed Wall Street bailout

Washington's current approach to today's credit crisis is the same destructive strategy that government tried during the Great Depression: prop up prices at all costs. The Depression went on for over a decade. On the other hand, when liquidation was allowed to occur in the equally devastating downturn of 1921, the economy recovered within less than a year.

F.A. Hayek won the Nobel Prize for showing how central banks' manipulation of interest rates creates the boom-bust cycle with which we are sadly familiar. In 1932, in the depths of the Great Depression, he described the foolish policies being pursued in his day - and which are being proposed, just as destructively, in our own:

Instead of furthering the inevitable liquidation of the maladjustments brought about by the boom during the last three years [late 1920s], all conceivable means have been used to prevent that readjustment from taking place; and one of these means, which has been repeatedly tried though without success, from the earliest to the most recent stages of depression, has been this deliberate policy of credit expansion.To combat the depression by a forced credit expansion is to attempt to cure the evil by the very means which brought it about; because we are suffering from a misdirection of production, we want to create further misdirection - a procedure that can only lead to a much more severe crisis as soon as the credit expansion comes to an end... It is probably to this experiment, together with the attempts to prevent liquidation once the crisis had come, that we owe the exceptional severity and duration of the [1930s] depression.

The only thing we learn from history, I am afraid, is that we do not learn from history.

The very people who have spent the past several years assuring us that the economy is fundamentally sound, and who themselves foolishly cheered the extension of all these novel kinds of mortgages, are the ones who now claim to be the experts who will restore prosperity! Just how spectacularly wrong, how utterly without a clue, does someone have to be before his expert status is called into question?

Oh, and did you notice that the bailout is now being called a "rescue plan"? I guess "bailout" wasn't sitting too well with the American people.

The very people who with somber faces tell us of their deep concern for the spread of democracy around the world are the ones most insistent on forcing a bill through Congress that the American people overwhelmingly oppose (calls to the capitol have been running up to 100 to 1 against the bailout). The very fact that some of you seem to think you're supposed to have a voice in all this actually seems to annoy them.

NEXT: Three Bank Monty - Monday's Global Bank Failures

Daryl Montgomery

Organizer, New York Investing meetup
http://investing.meetup.com/21

This posting is editorial opinion. Like all other postings for this blog, there is no intention to endorse the purchase or sale of any security.

Run on the Bank 2008 - Indymac

The 'Helicopter Economics Investing Guide' is meant to help educate people on how to make profitable investing choices in the current economic environment. In addition to the term helicopter economics, we have also coined the term, helicopternomics, to describe the current monetary and fiscal policies of the U.S. government and to update the old-fashioned term wheelbarrow economics.

Our video for this posting can be found at: http://www.youtube.com/watch?v=NqBhR1kkWHY.

Indymac was a large savings and loan that had split off from Countrywide, the largest mortgage provider in the United States, in 1997. Both were heavily involved in granting mortgages in the real estate bubble markets of the southwestern United States. Countrywide itself experienced a run on the bank in August 2007 in the earliest phase of the subprime crisis. Only an emergency cash infusion from Bank America, arranged by the Federal Reserve, kept it afloat. This was only a stopgap measure however and Bank America agreed to take over Countrywide in early 2008. This deal was also apparently secretly arranged by the Fed, although Bank America vehemently denied it despite the fact that it seemed to have the unusual term that Bank America wasn't responsible for Countrywide's debts (so who was?).

Although Indymac may not have been too big to fail like Countrywide, it was quite possible that the Fed would have arranged a bailout for it too, if it had had enough warning. Even though the chairman of the Senate banking committee had written a letter in late June to Indymac about its possible insolvency and the information in this letter inadvertently wound up in public hands, the FDIC seemed to be unaware of the precarious state of the bank. The FDIC is in charge of monitoring the health of the U.S. banking system and keeps a list of troubled banks. Indymac was not on that list at the time of its disastrous failure. This forced the FDIC to back peddle and claim that Indymac had really been on the list, but had only been put on it shortly 'before' its failure and that is why no one else seems to have known about it. This after the fact claim was inevitable since missing a bank failure that required the second biggest bailout in U.S. history would indicate that the FDIC hadn't the slightest idea of what was going on in the American banking system. .

The death blow to Indymac was a run on the bank which included long lines of suffering elderly and angry account holders who got so out of control that the police had to be called in. The similarities to bank runs in 1930s Depression U.S. were quite obvious. Banks failed then just as Indymac did in 2008 because they were insolvent. Contrary to popular belief, a run does not mean a bank will go under. U.S. banking history has numerous cases of banks surviving runs because their finances were in good shape. Insolvency is what destroys a bank, not the visible run that frequently gets the blame. Indymac management tried to take advantage of this mistaken belief to deflect blame for the banks failure by citing the letter from the chairman of the senate banking committee as the cause. Certainly they weren't going to say it was management incompetence that granted huge numbers of mortgages to people who were unlikely to ever pay them back that destroyed Indymac's finances..

One of the first things the FDIC did when it took over Indymac was stop foreclosures on its bad housing loans. Putting more of them on the books would make Indymac's finances look even worse. How this action was going to be paid for wasn't clear. It was already estimated that the Indymac failure would use up between 10% and 18% of the FDIC's $53 billion deposit insurance fund. One bigger bank failure, such as Wachovia or Washington Mutual, or a number of smaller ones, would wipe this fund out completely. Considering that financial rot permeated the U.S. banking system, nothing was more inevitable than the FDIC itself would require a future government bailout because of its own insolvency.

NEXT: Exposing Fannie Mae and Freddie Mac - Origins

Daryl Montgomery

Organizer, New York Investing meetup

http://investing.meetup.com/21

Bailout to Bailout - The Collapse and Rescue of Bear Stearns

The 'Helicopter Economics Investing Guide' is meant to help educate people on how to make profitable investing choices in the current economic environment. In addition to the term helicopter economics, we have also coined the term, helicopternomics, to describe the current monetary and fiscal policies of the U.S. government and to update the old-fashioned term wheelbarrow economics.

Our video for this posting can be found at: http://www.youtube.com/watch?v=G8Mn67rNCFQ

By March 10, 2008, rumors were flying everywhere on Wall Street that Bear Stearns was in trouble. In an attempt to counter these rumors, Bear's CEO released a statement to the press that the company had a sufficient liquidity cushion to weather the credit crisis. When a company is going under, it has no choice except to make such claims. Instead of being reassuring, this type of statement is an indication of serious trouble. After all, a sound company has no need to assure the public that its financial position is strong - and Bear Stearns was no exception. Insiders, of course, are not fooled by these proclamations, which are meant for the average investor. Indeed examination of options activity during Bear's last days shows heavy put buying that quickly turned into huge profits for those in the know.

According to an SEC report released the following week, Bear Stearns had a cash shortfall starting on March 11th, only one day after the CEO assured the public that Bear had sufficient liquidity. By the evening of March 13th, Bear was no longer a viable business and behind the scenes it was already working out the details of a bailout plan with the Fed. Ironically, if indeed it was a coincidence, earlier that day, S&P released a cheer-leading report heralding the end to subprime crisis write offs, which in turn led to a strong rally in U.S. financial stocks.

On Friday the 14th, Bear Stearns stock went into free fall. It closed at $30 a share, down from a high of over $171 at its peak in January 2007. Depending on the source, the book value for the company's stock was somewhere between $84 and $97 a share. The market obviously didn't agree and it would turn out the Fed's judgment was even more pessimistic. Nevertheless, after the close, the CEO stated in a conference call with investors that the book value was fundamentally unchanged. He also claimed that Bear's 'liquidity position had markedly deteriorated because of market rumors' indicating that management incompetence, the reporting of misleading financial figures, or that Bear actually being insolvent had nothing to do with the loss of faith in the company.

The CEO also announced an emergency 28-day loan from the U.S. Federal Reserve. The Fed had no real legal authority to assist Bear Stearns, so it funnelled the loan through JP Morgan, one of its member institutions. It justified its actions based on an obscure 1930s law that gives the Fed broad ability to grant loans to corporations in crisis conditions. During the weekend, the Fed would became even more proactive and Bear Stearns was no longer be an independent company when the markets opened again on Monday morning.

NEXT: Bailout to Bailout - The Bear Bailout and Its Aftermath

Daryl Montgomery
Organizer, New York Investing meetup
http://investing.meetup.com/21