Posts Tagged ‘capital’

The Fed Sends 19 Biggest Banks Back to the Treadmill

Wednesday, March 30th, 2011

The Federal Reserve‘s second round of stress tests requires the 19 largest U.S. banks to examine their capital levels against a worst-possible-case scenario of another recession with the unemployment rate hovering above 8.9 percent. The banks were instructed to test how their loans, securities, earnings, and capital performed when compared with at least three possible economic outcomes as part of a broad capital-planning exercise.  The banks, including some seeking to increase dividends cut during the financial crisis, submitted their plans in January.  The Fed will complete its review in March.

“They’re essentially saying, ‘Before you start returning capital to shareholders, let’s make sure banks’ capital bases are strong enough to withstand a double-dip scenario,'” said Jonathan Hatcher, a credit strategist at New York-based Jefferies Group Inc.  Regulators don’t want to see banks “come crawling back for help later,” he said.

The review “allows our supervisors to compare the progress made by each firm in developing a rigorous internal analysis of its capital needs, with its own idiosyncratic characteristics and risks, as well as to see how the firms would fare under a standardized adverse scenario developed by our economists,” Fed Governor Daniel Tarullo said. Although Fed policymakers aren’t predicting another slump any time soon, they want banks to be prepared for one.  In January, the Federal Open Market Committee forecast a growth rate of 3.4 percent or more annually over the next three years, with the jobless rate falling to between 6.8 percent and 7.2 percent by the 4th quarter of 2013.  Unemployment averaged 9.6 percent in the 4th quarter of 2010.

The new round of stress tests are being overseen by a financial-risk unit known as the Large Institution Supervision Coordinating Committee (LISCC).  The unit relies on the Fed’s economists, quantitative researchers, regulatory experts and forecasters and examines risks across the financial system.  Last year, the LISCC helped Ben Bernanke respond to an emerging liquidity crisis faced by European banks.  “The current review of firms’ capital plans is another step forward in our approach to supervision of the largest banking organizations,” Tarullo said. “It has also served as an occasion for discussion in the LISCC of the overall state of the industry and key issues faced by banking organizations.”

At the same time, Bernanke expressed his support for the Dodd-Frank Act, which will add new layers of regulation to the financial services industry, as well as the Consumer Protection Act. “Dodd-Frank is a major step forward for financial regulation in the United States,” Bernanke said, noting that the Fed is moving swiftly to implement its provisions.  Additionally, the Fed wants banks to think about how the Dodd-Frank Act might affect earnings, and how they will meet stricter international capital guidelines.  Banks will have to determine how many faulty mortgages investors may ask them to take back into their portfolios.  Standard & Poor’s estimates that mortgage buybacks could carry a $60 billion bill to be paid by the banking industry.

In the meantime, the big banks are feeling adequately cash rich to pay dividends to their stockholders.  Bank of America’s CEO Brian T. Moynihan said that he expects to “modestly increase” dividends in the 2nd half of 2011.  “We’d love to raise the dividend,” James Rohr, CEO of PNC, said.  “We’re hopeful of hearing back in March from the regulators.”  JPMorgan CFO Douglas Braunstein told investors that the bank asked regulators for permission to increase the dividend to 30 percent of normalized earnings over time.  Braunstein said that JPMorgan’s own stress scenario was more severe than the Fed’s, and assumed that the GDP fell more than four percent through the 3rd quarter of this year with unemployment peaking at 11.7 percent.

Clive Crook, a senior editor of The Atlantic, a columnist for National Journal, and a commentator for the Financial Times, believes that United States fiscal policy itself merits examination.  Writing in The Atlantic, Crook says that “Fiscal policy needs a hypothetical stress test, just like bank capital.  Let’s be optimistic and suppose that the deficit projections do hold, and that a debt ratio of 80 percent can be comfortably supported at full employment.  What happens when we enter the next recession with debt at that level?  Assume another really serious downturn, and another 30-odd percentage points of debt.  Worried yet?  That’s why the problem won’t wait another ten years, and why sort-of-stabilizing at 80 percent won’t do.”

Amy Dean On Do Unions Matter?

Wednesday, March 9th, 2011

dean_icon_tag America is obsessed with the issue of trade unions again.  Labor unions have gained new prominence as Democratic legislators from Wisconsin and Indiana have left their states for the greener pastures of Illinois to avoid participating in votes to cut back or eliminate collective bargaining rights for public employees.  Thousands of protestors have taken up residence in the Wisconsin State Capitol to voice their anger at Republican Governor Scott Walker’s attempts to break the state’s unions.

Are labor unions relevant in the 21st century?  Amy Dean, an author, activist and social entrepreneur whose roots are in the American labor movement and who served 10 years as the President and CEO of the South Bay AFL-CIO Labor Council in the Silicon Valley, says the answer is a resounding “yes”.  Dean is also co-author of the new book, “A New New Deal: How Regional Activism Will Reshape the American Labor Movement.”  During her tenure with the AFL-CIO, Dean represented 90 separate unions with more than 110,000 members.

Dean points out that before President Ronald Reagan famously busted the air traffic controllers’ union in 1981, there was strong bipartisan support for organized labor.  Even Republican President Dwight D. Eisenhower acknowledged the impact of unions and said the interests of employers and employees were about mutual prosperity.  According to Dean, things have changed because the post World War II economy consisted of industries that were dedicated to building the nation’s base to assure this prosperity.  Unfortunately, that consensus started to break down by the mid-1970s until today, we have no agreement about how our economy should grow, what our obligations are to one another, and how we can compete optimally in a global economy.

In a recent interview for the Alter NOW Podcasts, Dean says that the building trades and entertainment industry are good models to look at for the next generation of employee organization.  In this system, as people move from job to job, they have a base wage through union membership.  Built into that base wage are healthcare insurance and a pension, again enabled by membership in a labor union.

Also, Dean asserts that unions are not the reason for outsourcing and that corporations are motivated by other issues.  In today’s economy, capital wants to locate where land-use policy is predictable, thanks to proactive regional efforts.  Companies want to be in areas that have good K-12 schools, open spaces, a high quality of life, decent affordable housing, a functional mass transit system, proximity to a world-class airport and the kind of knowledge workers that companies need to succeed.  Unfortunately, Dean says, unless Americans are prepared to deal with the issue of tax reform, there will be little conversation in America about any social agenda.

In today’s economy, capital wants to locate where land-use policy is predictable, thanks to proactive regional efforts.  Companies want to be in areas that have good K-12 schools, open spaces, a high quality of life, decent affordable housing, a functional mass transit system, proximity to a world-class airport and the kind of knowledge workers that companies need to succeed.  Unfortunately, Dean says, unless Americans are prepared to deal with the issue of tax reform, there will be little conversation in America about any social agenda,  Yet, these are the things that capital needs to be successful.

Read James Surowiecki’s take on the current state of labor unions in The NewYorker.

To listen to Amy Dean’s full interview on why unions matter, click here.

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Robert Knakal on the Bulls vs. the Bears – Who Do You Trust?

Monday, October 18th, 2010

Robert Knakal discusses whether the bulls or bears are right about the economy. Who’s right about the state of the economy and commercial real estate – the bulls or the bears?  Robert Knakal, chairman of New York-based Massey Knakal Realty Services, weighs both sides to help us cut through the mixed messages.

In a recent interview for the Alter NOW Podcasts, Knakal noted that the bulls like to cite the best back-to-back GDP growth since 2003 – 5.9 percent in the 4th quarter of 2009 and 3.2 percent in the 1st quarter of 2010.  Bears, on the other hand, believe that weak consumer spending will cause the GDP to grow at an anemic two to three percent for the rest of the year.  Knakal views this is an interesting dynamic because of the growing number of economists who back the bears’ position – numbers that are well below the trend coming out of a recessionary period.

Knakal, a graduate of the Wharton School of Business, also writes StreetWise, a nationally syndicated real estate industry blog, is concerned that many loans made by community and regional banks are five-year loans, which will mature in 2011 and 2012.  These loans raise the loudest alarms, because many are still performing thanks to very advantageous interest rates – possibly in the form of interest-only loans or with interest reserves that are carrying the property.  When these loans – which now could have an interest rate as low as two percent – mature, it will be renewed at a 5 ½ or six percent interest rate that will require a de-leveraging process.  Some $10 billion banks are carrying half of all their commercial real estate exposure in Small Business Administration (SBA) loans.

Despite the bears’ lack of confidence in the commercial real estate markets, capital is available to credit-worthy users chasing high-credit projects.  The amount of available private equity is currently estimated at approximately $173 billion.  Public REITs raised more in common stock offerings in 2009 than they did in the previous nine years.  Non-public REITs are expected to raise $10 billion this year.  Sovereign wealth funds are said to have access to an astonishing $3.5 trillion.  What Knakal cautions us to recognize is that these often represent the same pools of equity and to draw the distinction between capital that has been promised and that which is actually available.

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Commercial Real Estate Is Recovering

Wednesday, June 30th, 2010

American commercial real estate is gradually regaining its value.After nearly two years of waiting, watching and hoping, American commercial real estate is finally regaining strength. This is one conclusion of the Reuters Global Real Estate and Infrastructure Summit held recently in New York City.  Starting in the fall of 2008, real estate investors feared there would be a wide-ranging sell-off of debt-laden commercial properties after Lehman Brothers collapsed.  And while office building and other commercial property values have fallen since the capital markets froze, the anticipated spate of foreclosures has not come to pass.  According to James Koster, president of Jones Lang LaSalle’s capital markets group, that is now unlikely to happen.

“We should be in a relatively good position to not have this other shoe drop,” according to Koster.  Banks have extended, restructured and modified loans to give the real estate industry the opportunity to regroup.  Values also are on the rise once again, although some properties whose loans were securitized are troubled.  The percentage of CMBS loans that are a month late in making payments climbed to 8.42 percent in May, according to Trepp, which follows CMBS performance.  Koster notes that special servicers who oversee troubled loans are not selling the properties at bargain basement prices.  Rather, they are holding onto them and being paid for managing them.

Institutional investors and REITs have the money to purchase good but debt-laden real estate.  When those properties hit the market, their price tags will be higher than two years ago.  “There is fresh capital coming in.  It’s a better market now,” Koster concluded.

Sovereign Wealth Funds Back in the Saddle?

Tuesday, November 3rd, 2009

sovereign-wealth-fundsThe Western European commercial real estate bright spot is the activity by German investors, according to the latest Global Capital Trends report from Real Capital Analytics (RCA).  “In April, the Germans raised a half billion Euros — approximately $690 million – for their open-ended funds.  That is in addition to the billion Euros raised in the first quarter,” says Robert M. White, Jr., RCA’s founder and president.  Although that fund-raising mechanism is “kind of unique” to Germany, White adds that it doesn’t differ a lot from the non-traded REITs that have amassed capital from retail investors.  “We’re definitely seeing more capital raised, and it’s not institutional,” he says.  “It’s definitely the mom-and-pop, entrepreneurial type of investors capitalizing some of these deals.”

German investors have gravitated toward quality rather than distress.  And they aren’t the only ones who have been active lately in cross-border transactions.  White points out recent Saudi activity in London as a case in point of renewed sovereign wealth fund (SWF) investment.  “There are a lot of foreign investors eyeing the U.S., but they tend not to be the first movers,” he says.  White predicts that overseas buyers will be a major part of the recovery here, “but not the leading wave.”

SWFs are known to be extremely conservative in their investment philosophy and likely will stick with acquiring trophy and other Class A assets.

Local Banks Facing Significant CRE Losses

Monday, June 15th, 2009

Toxic commercial real estate loans could create losses up to $100 billion for small and mid-size banks by the end of 2010 if the economy worsens.  According to a Wall Street Journal report – which applied the same criteria used by the federal government in its stress tests of 19 big banks — these institutions stand to lose up to $200 billion.  In that worst-case scenario, 600 small and mid-sized excedrin1banks could see their capital contract to levels that federal regulators consider troubling, possibly even surpassing revenues.  These losses would exceed home loan losses, which total approximately $49 billion.

The Journal, which based its analysis on data mined from banks’ filings with the Federal Reserve, are a grim reminder that the banking industry’s troubles are not confined to the 19 giants that have already completed the Treasury Department’s stress tests.  More than 8,000 lenders nationwide are feeling the dual impacts of the recession and commercial real estate slowdown.

The banks analyzed by the Journal include 940 bank-holding companies that filed financial statements with the Fed for the year ending December 31.  They range from large regional banks to mom-and-pop banks in small towns, as well as American-based subsidiaries of international banks.

Smaller banks are unlikely to appeal to bargain-hunting investors who are starting to recapitalize the industry’s giants.  As a result, these institutions must boost their capital by selling assets and making fewer loans – which could make the recession last even longer than anticipated.

There’s Method in Warren Buffett’s Madness

Wednesday, May 20th, 2009

Warren Buffett’s loyal followers are wondering what got into the Oracle of Omaha6a00d834a6138369e200e54f0aa7a68833-500wi when he told CNBC  that this is “a great time to be in banking“, praised Wells Fargo’s massive earning power, and said that the government doesn’t need to provide capital to or nationalize banks.

Although some critics dismissed Buffett’s statements as biased because he owns large stakes in Wells Fargo and U.S. Bancorp, he may be dead right.

Buffett was talking about lending, and it’s the “spread” that counts – the difference between the interest rates banks charge for the loans they make and the rate they pay to borrow that money.  When the Federal Reserve makes deep interest rate cuts, spreads widen and loans become more profitable.  The Fed funds rate is so low right now that Wells Fargo is borrowing cheaply and profiting handsomely on the loans it makes.

Although banks do need to recapitalize, they currently are saving money by cutting dividends paid to investors.  Every dollar they make goes into recapitalization.  With stricter government oversight, banks are required to operate more efficiently.  The irony is that these conditions are almost identical to what helped the nation recover from its last banking crisis during the 1990 – 1991 recession.  In fact, the banks 19 years ago were in worse shape than they are today; yet they were not nationalized or put into receivership.  Once the Fed cut interest rates, banks’ lending policies became more conservative, and they eventually recovered.  The same scenario could play out this time around.

Dr. Geithner’s Harsh Medicine

Tuesday, April 21st, 2009

The Obama administration has proposed the most comprehensive overhaul of the nation’s financial industry since the Great Depression.  The measures, as outlined by Secretary of the Treasury Timothy Geithner, geithnerwill require regulation of hedge funds for the first time and give government wide-ranging powers to seize and take apart companies that are perceived as threats to the overall economy.  The proposals are strong medicine indeed.

The measures, which require Congressional approval, are structured to entice private buyers by offering the similar supercharged leverage that prevailed during the financial boom-but one where oversight is de rigueur.   While the private sector is cutting back on its debt, the government believes that providing inexpensive financing is the best way to free up the market for illiquid debt.

The proposals give the Federal Reserve the authority to oversee the nation’s economy for signs of “systemic risk”.  The legislation will include significantly stronger requirements regarding the cash reserves and assets that institutions must have on hand to endure economic downturns.  Hedge funds, private-equity firms, derivatives and other private investment funds will be required to register with the Securities and Exchange Commission and will be subject to strict regulation.  Additionally, the government will establish a central clearinghouse to closely monitor trades in these markets.  Lastly, the administration will develop stricter requirements for money market funds so withdrawals don’t threaten the broader financial system.

Harsh medicine indeed, but the old system failed us all.  Secretary Geithner sees his proposals as a price worth paying to clean out banks’ balance sheets.  If the plan fails, it will be because banks were not willing to risk of taking a write-down and depleting precious capital.