Fed Flushes $1.7B Worth of Taxpayer Funds Down the Toilet

Last week, under the cover of darkness and in an extraordinary show of Government incompetence, the FDIC seized United Commercial Bank. The problem is that Mingsheng, a Chinese bank, had already approached the Fed about a potential acquisition of UCB. Mingsheng, which had already invested $129M into UCB, was presumably trying to salvage some portion of it's investment. Unfortunately, Mingsheng's application was destined to whither away on a bureaucrats desk, as various branches of the federal government bumbled about in an attempt to resolve the problems at UCB - oblivious it seems to the cost effective solution right before their eyes. They (Mingsheng) were not the only investors though; last year the Treasury injected $298M into UCB as part of the now infamous TARP program. Furthermore, the FDIC estimates that the UCB failure will cost it's Deposit Insurance Fund $1.4B. The DCF is theoretically funded through premia leveled on the banking industry; however, we all know that this cost gets passed onto consumers in the form of higher overdraft, ATM, inactivity etc. fees. Therefore, the Treasury/Fed/FDIC - acting in disorganized concert - managed to flush $1.7B worth of taxpayer money down the toilet.

This is truly an embarrassment. Sphere: Related Content

A Closer Look at the FDIC's Deposit Insurance Fund

After falling victim to conventional wisdom last week, and speculating whether the FDIC had weeks or days remaining before it would need a Deposit Insurance Fund restoration bailout, I determined that the prudent course of action was to dig a little deeper into the issue. Specifically, I wanted to know the basics behind whatever accounting procedures took place at the FDIC in order to generate the headline "balance" of the Deposit Insurance Fund. In doing so, I came across several dissenting opinions (including an especially well-written article in American Banker) which, through a more precise look at the DIF, determined that the Fund has actually remained relatively stable despite there being nearly 100 bank failures in 2009 alone. Furthermore, I would argue that the Deposit Insurance Fund is not only far from depletion, but also unlikely to come under any considerable stress throughout the forthcoming year.

Most media representations of the DIF involve the reporting of the final line of the Deposit Insurance Fund's balance sheet, which is labeled "Fund Balance". While this may seem like the logical thing for journalists to do, the truth is that it is an inaccurate measure of the FDIC's funds available to absorb depositor losses.

Basically, the DIF's balance sheet is arranged much like any other corporation's would be, although the underlying "accounting equation" carries one distinct label; Assets = Liabilities + Fund Balance. To assume that the line labeled "Fund Balance" is inclusive of the FDIC's total deposit insurance resources at the moment is to ignore a line in the liabilities section labeled "Contingent Liabilities: future failures". This line item represents the FDIC's best estimation of the next four quarter's worth of failure related DIF losses, and is adjusted based upon the FDIC's assessment of troubled bank's balance sheets/loan losses/deposits etc. At the end of Q2'09, the FDIC had set aside $31.968B to cover losses it expects to occur over the next year. For the 12 months ended June '09, the DIF's headline "balance" has declined by $34.849B; however, Contingent Liabilities have risen by $21.378B. In other words, although the Fund's balance has declined 77% year over year, the FDIC's loss absorbing resources have only declined by 24% over the same period of time.

When you consider the substantial rise in Contingent Liabilities, along with the fact that the DIF has guaranteed revenue in the form of FDIC "assessments" on the banking industry, it becomes clear that the Deposit Insurance Fund is in a lot better shape than many give it credit.

*no positions

*InfoNgen was used to research this article Sphere: Related Content

When Will the FDIC's Bailout Come to Fruition?

The slew of bank failures that typically accompany a Friday night have inspired many people to approach these bouts of creative destruction as if it were a sport - say college football - worthy of following, documenting, and parsing. I am one of those people. That being said, I think it's about time that I devote some attention to the arguably mythical creature known as the FDIC's Deposit Insurance Fund (DIF). This fund is theoretically used to bridge the gap between the value of the deposits recovered in a bank failure, and the total value of bank depositor's claims that are insured by the FDIC. The DIF is largely funded via an assessment (read: tax) on FDIC member banks. A couple years ago, nobody paid that much attention to the DIF; it's balance remained relatively stable throughout time, and was only affected by the occasional bank failure. Presently however, the FDIC is in the midst of a 92-bank-failure-year which has reduced the balance of the DIF from $45.217B at the end of June '08, to a mere $10.386B as of the quarter ended June 30th, 2009. It is this fact alone which most discredits comparisons between today and the S&L crisis; although the S&L fiasco saw a much longer list of bank failures, consolidation within the banking industry over the past 20 years has led to fewer - yet much larger - banks today. For instance, last night's failure of Chicago based Corus Bank will cost the FDIC's DIF $1.7B.

It's become clear that the FDIC will be unable to prevent the depletion of the Deposit Insurance Fund; the question is how long it will be before the FDIC officially receives it's "bailout" from Treasury, in the form of a "loan" from the taxpayers. Well, we know that the DIF's balance is still in the billions of dollars, although it is certainly in the single digits by now. I can also state that a reasonable number of monthly bank failures - for the next 6-8 months at least - is between 15 and 30 banks per month. However, the total number of bank failures doesn't offer a very predictable estimate of DIF losses; as we've observed over the past year, the range of failed banks total assets/deposits is very large. My most reasonable estimate is that monthly DIF losses will range between $100MM and $3B; this doesn't allow for any black swan events of course, but those are useless to attempt to forecast. That being said, the FDIC could require a Treasury bailout in as soon as 2 months, or in the best case scenario, as far into the future as May/June 2010. If I were a bookie, I would probably set the under/over date for an FDIC bailout at December 15th, 2009. It's probable that I could balance my books with a date like that, however, my personal bet is that the bailout will have to occur before the end of October 2009. Sphere: Related Content

First Bank of Kansas City - And Others - Fall Into the Government's Arms

I realize that today's bank failure - First Bank of Kansas City being the wilted financial institution- is a relatively insignificant event which shouldn't realistically be compared to the General Motors bankruptcy. However, I found the Wall Street Journal's headline on that day to be so humorous, that I've saved a copy to look at while at work. In case you're new to reading, the headline read "GM Collapses Into Government's Arms". Anyways, I've been looking for a chance to invoke the concept of a corporation's 1) knees buckling 2) falling towards the ground 3) caught and embraced by the benevolent arms of the federal government - into a post title. Because the First Bank of Kansas City has (had) assets totaling only $16MM, I would imagine that it's collapse did not cause any undue strain upon the government's arms. Technically, the cost to the FDIC's Deposit Insurance Fund (DIF) is estimated to be $6MM. Although I'll snidely point out that six million bucks represents a larger percentage of the DIF balance than it would have been if measured at any other time this year, it isn't very much money at all. For instance, Goldman Sachs could easily replenish this $6MM portion of the DIF by donating 23 minutes worth of trading profits to the FDIC (assumes $100MM daily trading profit generated at a constant per second rate ($4327/second) during the 6.5 hours of a standard trading day)

Update - before I could finish writing this post, the FDIC announced the 86th and 87th bank failures of the year, as Inbank and Vantus Bank have both apparently fallen into the increasingly crowded arms of the government. This development ruined the latter part of my post, as I had planned to comment on the fact that a 1 bank failure Friday is a rare thing indeed. Furthermore the failures of Inbank and Vantus Bank will cost the DIF an estimated $66MM and $168MM, respectively. On a $100MM trading day, it would take Goldman Sachs 2.34 days to replenish the DIF for the losses it has incurred as a result of the wilting of these two banks. Sphere: Related Content

FDIC Closes 24 Banks in July; Random Event or Wilting Economy?

In what has become as much a staple of Friday nights as drunkenness itself, the FDIC on Friday conducted "seizures" of the following five banks:

1. Mutual Bank (Harvey,IL)
   
2. First BankAmericano (Elizabeth, NJ)
   
3. Peoples Community Bank (West Chester, OH)
   
4. Integrity Bank (Jupiter,FL)
   
5. First State Bank of Altus (Altus,OK)

Despite the fact that JP Morgan and Goldman Sachs continue to earn(?) healthy profits, the plight of the nation's small community banks appears substantially more imperiled. The familiar Fridays that used to feature a single bank failure are now characterized by a new tradition which dictates that at least four - and possibly five banks must fail each Friday. The rate and magnitude of recent bank failures does not correspond well with the popular belief of the day; being that we have "turned a corner", "stopped the tailspin", "stabilized" or any other number of foolish statements currently in vogue. To take a look at some data that slaps the recovery hypothesis right in it's face, let's take a look at the past thirteen month's bank failures, by the number that have occurred each month. (Source: FDIC: Failed Bank List):

Month-# of Bank Failures
July '08: 3
August '08: 3
September '08: 4
October '08: 4
November '08: 5
December '08: 3
January '09: 6
February '09: 10
March '09: 5
April '09: 8
May '09: 7
June '09: 9
July '09: 24

It's immediately apparent that July's number of failures represents a severe departure from normal. The question is, did we just experience a run of the mill anomaly that occurred independently of economic conditions, or do the numbers indicate something more troublesome? To say that 24 bank failures in one month alone is NOT an indication of economic deterioration, one would have to suppose that there is an element of randomness to the number of failures that occur each month. If that is so, we should be able to apply some elementary statistics to the situation to discern just how probable it is that July would randomly produce 24 Bank Failings.

Running the numbers on the 12 months ended June 2009, we calculate that the mean number of bank failures for a single month is 5.58, and the population standard deviation is 2.33. For the uninitiated, this means that - assuming the Failures are distributed normally - the number of financial institutions collapsing in a single month will be between 3.2 and 7.9, approximately 68% of the time. Taking the exercise a step further, we can state that 97.5% of the time, a given month will produce 10.23 or fewer Friday night FDIC raids. To calculate the probability of the 13th month in the series (July 2009) bearing witness to a full 24 FDIC seizures, one must first arm himself with spreadsheet software capable of displaying results to the Quadrillionth (Google's spreadsheet program is just barely able to do so). The probability-value associated with such an event is 1.18755X10^-15, or 0.0000000000000018755.

Based upon the monthly rate of bank closings during the most recent 13 periods, it's apparent that the random forces of nature are, in all likelihood, not responsible for the FDIC's hectic July schedule. We must then conclude that the responsible party is none other than a deteriorating economy. To be more specific, the recent spike in bank failures is a reflection of the rapidly deteriorating economy on Main Street a.k.a those who did not receive a bailout and continue to either fear or experience job losses; consequently, straining the ability of these individuals to honor the obligations made to many smaller, community oriented banks.

*no positions Sphere: Related Content

Guaranty Financial On the Precipice of Collapse

A new and distinct phase of the financial crisis is beginning to materialize, characterized in part by the fragile(please excuse the euphemism) state of Guaranty Financial Group Inc. (GFG) - a financial institution that declares itself to be the second largest publicly traded bank in the state of Texas. The speculation over Guaranty Financial's ability to avoid FDIC seizure has intensified in recent days, due in no small part to the startlingly grim language contained in the bank's most recent 8-K concerning "material impairments" to the business. From the SEC filing:

As previously disclosed in a Current Report on Form 8-K filed on June 29, 2009, Guaranty Financial Group Inc. (the “Company”) has been working on a plan to raise substantial capital for it and its wholly-owned subsidiary, Guaranty Bank (the “Bank”) through an open bank assistance transaction with the Federal Deposit Insurance Corporation (“FDIC”) and the Office of Thrift Supervision (“OTS”) and with private investors, including the Company’s current principal stockholders. On July 17, 2009, at the direction of OTS, the Bank filed an amended Thrift Financial Report (“TFR”) as of and for the three months ended March 31, 2009. This filing reflected substantial asset write downs as described below, which resulted in the Bank having negative capital reflected in the TFR as of that date.

The Company believes that these write downs foreclosed the possibility of applying for open bank assistance. Our primary stockholders have not affirmed their willingness to commit to a capital infusion in support of such an application. As a result, the Company no longer believes that it will be possible for the Company or the Bank to raise sufficient capital to comply with the Orders to Cease and Desist described in the Company’s Current Report on Form 8-K filed on April 8, 2009. In light of these developments, the Company believes that it is probable that it will not be able to continue as a going concern.

With nearly a billion dollars in annual sales, and over two thousand employees, the collapse of Guaranty Financial would be no small event; it wouldn't however, pose an immediate threat to the stability of the financial system as a whole. In the latter months of 2008, the size, reach, and breadth of the most at-risk financial institutions was such that the after-shocks of failure could have brought our financial system to it's knees. Round #2 - a round that is gaining clarity on a daily basis - is most accurately described by the old saying "death by a thousand cuts". Bank failures of a magnitude similar to Guaranty Financial will not produce the immediately recognizable reverberations seen post-Lehman. What these "small" failures will do though is slowly exacerbate the crippling forces that presently plague the economy, drain further the FDIC's already depleted "rescue fund", and contribute to the decidedly deflationary trajectory of the United State's economy.

*no position in GFG Sphere: Related Content

Goodbye CIT? Hello Job Losses

CIT Group Inc. (CIT) has announced that, insofar as it's prospects of receiving some sort of Government aid/backing/assistance are concerned, "there is no appreciable liklihood". This development occurs after a week long speculation concerning the likely fate of the middle market lender, largely focused on the question of whether the FDIC will guarantee the Company's debt. The issue managed to create a divergence of opinion amongst ratings agencies S&P and Moody's, which had the former stating it's expectation that CIT would receive FDIC assistance, while the latter argued otherwise. More significant we believe, was the bifurcation of opinion that occurred amongst market commentators, economists, and the like. It seems that some folks are against further government bailouts on principle alone, while others perceive the cost/benefit to be in favor of saving the lender. Although we would concur with the view that a CIT failure will not pose a systemic risk to the financial system as a whole, we would argue that a CIT bankruptcy filing will serve to further deteriorate both the labor market, and the economic condition of Main Street.

First of all, we consider it an entirely presumptuous notion that other financial institutions will be able to step in and pick up CIT's "slack". Frankly, many small businesses that rely on credit lines from companies like CIT do not have the wherewithal to simply wait for help. They will choose to lay off workers first, and evaluate the situation later. Many will simply close their doors in lieu of burning through cash reserves while waiting for replacement financing.

Ultimately, allowing CIT to fail does not make sense in light of the Administration's aspirations to create a small business lending program. We know that the Treasury will immediately book a >$2B loss on the TARP funds it has already injected into CIT, and that a bankruptcy will be a major setback to small business funding. Thus, any SB "rescue" measure will have to be all the more expensive just to get us back to where we currently stand. We aren't completely sure as to what the Government must be thinking, however, it is likely that the agency turf war between the Fed, Treasury and FDIC has managed to obfuscate the real issue at hand. What a surprise.

Sphere: Related Content

Which is Worse: 467,000 Jobs Lost, or 7 Failed Banks?

In case anyone was too busy to notice, the Labor Department announced yesterday that US non farm payrolls shrunk by 467,000 in the month of June. Needless to say, these numbers, which will likely be revised further downwards next month, are a direct blow to the Economic Cheerleaders we are fond of mocking on this site. We bid farewell, at least until next month, to all "second derivative" arguments.

In other news, the FDIC apparently decided that, due to the 4th of July holiday, it would would shift it's customary bank seizure day from Friday to Thursday. Likely, when the mobile bank seizure squad learned that it's docket would consist of seven financial institutions this week alone, it's member cringed at the thought that such activity might interfere with whatever plans they had made. Below is the list of those financial institutions that did not live to see the 233rd anniversary of US independence:

Founders Bank, Worth, IL
Millennium State Bank of Texas, Dallas, TX
The First National Bank of Danville, Danville, IL
The Elizabeth State Bank, Elizabeth, IL
Rock River Bank, Oregon, IL
The First State Bank of Winchester, Winchester, IL
The John Warner Bank, Clinton, IL



If the question above were put to a vote, we suspect that the jobs number would win; 467,000 would undoubtedly cast a vote the way of the jobs, plus, each of the 467,000 has adversely affected at least two other individuals, whose fear of losing their own job has just been amplified. Ultimately though, we will admit the irrelevancy of the question we just posed. What is relevant though, is the fact the underlying logic behind the claim that "Prosperity is just around the corner" has been dealt a severe blow, and will likely test the imaginations of those people who stand to benefit from the propagation of this false theory. It shall be interesting, we think. Sphere: Related Content