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Thursday, May 7, 2009

The Stress Tests: Facilitating Back Door Nationalization

In fact, I predicted this about three weeks ago. The long awaited stress tests are in and they are largely in line with what has been leaked. Ten of the nineteen largest banks need more money. They need just under $75 billion total and it's lead by Bank of America that needs $35 billion.

So, now comes the hard work of finding this capital. There are only a few different ways for the banks to do this. One is to go into the private market and borrow or otherwise attain the capital. Of course, we come to banks when we need money. So, it's very unlikely that banks will borrow money from someone else. Second, they could sell some of their assets. Of course, all assets are so depressed that this would be the worst time to sell off parts of their companies. They could also issue more shares of stock. In fact, some have announced this.

Citigroup, Wells Fargo and Morgan Stanley, which will need to raise capital following the government's stress tests, announced plans to for common stock offerings.

Of course, issuing more shares dilutes each current shareholder, and furthermore, who's going to buy common shares in banks that have been openly been told they are in need of billions of dollars.

So, that leaves one option left. That is to convert preferred stock to common stocks. Guess what entity is the largest preferred stock holder in all these banks. That's right it is the U.S. government, and of course, one bank has already announced they would do this.

Citi plans to expand its public exchange offers previously announced on February 27 and said the deal could increase tier 1 common stocks from first-quarter level of $22.1 billion to as much as $86.2 billion.

The company said the U.S. government would own about 34 percent of Citi's
outstanding common stock.

So, Citigroup is already nationalized, and Bank of America et al will follow soon. This is back door bank nationalization.

The FDIC routinely does these "stress tests". They are always done privately. Never has such a test attracted such attention. Why? One effect is that banks will have a much greater difficulty getting more capital. Everyone now knows exactly how deep in the hole Bank of America is.

Some say that these tests being public means that lending will increase. That's a naive thought. These banks have been told they have six months to raise $75 billion. How would this mean that banks will lend more? They need more money themselves.

In effect, these banks have been publicly exposed as needing more money. It's more money that no one will give them. As such, they will be forced to do the only option available and that's to nationalize themselves.


Anonymous said...

I've heard that once Bank of America and Citi convert their shares Obama's going to show Ken Lewis and Vikram Pandit the door.

mike volpe said...

That would be the third company CEO that Obama would fire.