Capitol Hill Blue Forums Political Issues Finance, the economy & Economics Banks in trouble?

For anyone concerned about the economy, here is an excellent analysis of the Financial Industry, and a serious warning of what could be a very near term catastrophe.

Are Banks in trouble?

If, after reading the article, you feel that there are any mitigating circumstances that could save the world markets from a financial Armageddon, would you share your thoughts here?

Funny thing IS,

A month or so ago when this whole subprime thing really started becoming news, I went in and had a chat with my bank. Frankly? I wanted to make SURE my money would be accessible, to ME.

We spoke of mortgages etc, turns out the bank I use writes their own mortgages, and holds and services them in-house. You must be extremely creditworthy to get a mortgage through them, and while it doesn't make me feel truly secure, it did make me feel a bit better. They also assured me that they weren't involved in investing in mortgage secured bundles, At this moment, I'm glad my banking isn't done with one of the mega-banks, mine is regional, and apparently rather consrevative in their practices.

But, after reading the article, I am appalled that the safeguards put in place after 1929 have been removed, I had no idea this had happened, and I cannot believe minds far greater than mine thought this was 'OK'!! What in the heck were they thinking?

I would like to keep this thread alive for reference purposes.

I believe that the ultimate resolution of what has been called "Subprime lending", will be a recession/depression/worldwide upheaval of the banking system.

A desperate struggle is going on right now, to avoid a liquidity crisis in the monetary system. The very best hope to avoid this, is some kind of agreement between the largest banks, to accept the Derivatives... (CDO's) that have been allowed to proliferate within the monetary system. This is unlikely, since the egregious policies that have been allowed, are too great to be swept under the rug of "Bank Assets".

This article explains the problem and the likely outcome... (not in the opening paragraphs but in the final ones).

Rather than try to explain, I will continue to research and post articles that cover this "first ever" phenomenon of exposing the deepest secrets of bankers and money managers.

Here's the latest, and one that goes to the heart of the problem.

Banks at Risk for Failure... an analysis

Stay tuned for more...

Oh how I hate feeling ignorant, but when it comes to the language of high finance, I am, woefully so.

Can someone translate for us mere mortals? I think I know what the author is saying in general, but I'm not entirely sure I catch the nuance.

Thanks!

Let me give a try at explanation.
If it were easy, the media might have figured it out by now.

The last referenced article said two things. First, that the Stock markets have been soothed for the short term, because the Fed will likely reduce the costs to banks to loan money by lowering the Fed Rate. It just means that the banks will be able to borrow from the Fed at a low rate, and not be pressed by a liquidity crisis.

The second part is the crux of the Bank's underlying problems.

It used to be.. back in the 80's that banks had to keep a portion of their assets in a liquid form, to be able to handle demands on those assets by those with rights to them.

The assets could be gold, or individual mortgages, or items with a recognizeable value. Items that could be converted into cash.

This limited the banks to holding these liquid assets. During the Clinton Administration, the banks lobbied (300 million Dollars worth) to allow the banks to "Secure" these required assets. This meant that they could combine (for instance) mortgages, into what is called Collateralized Debt Obligation(s)...
A piece of paper that represented (perhaps) 20 mortgtages... avg value $200,000. This would be a CDO, worth $4 Million dollars.
This CDO could then be sold, transferred, swapped, divided into smaller CDO's, usually to Mortgage of Investment companies.

This allowed the bank to raceive money for the CDO, to then loan out again for othr purposes... more mortgages, or loans for other purposes.

Now here's the problem... once the CDO's debt (or what they now call credit) changes hands, it now becomes a "Security" which is not easily convertable, for several reasons. First, no one knows how much that CDO is really worth. (What if 4 of those houses that represented the original CDO... burned down. What if the houses ended up in depressed areas, and the values went down? What if the mortgagees can no longer pay their mortgages?)

The CDO that was worth $4 million is now worth WHAT?

In many cases, the CDO's were made up of very risky mortgages. The $4 Million dollars may be worth much, much less.

The banks... and really, EVERYONE is afraid to buy the CDO securities.

People, Organizations, Corporations, and yes, Banks, who own these CDO's, cannot sell or trade these CDO's without taking serious risks.

Can't sell, and can't provide liquidity to pay back other debts.
That's it... in a nutshell.

Now, you go to the bank... to take out money from your checking account. The bank doesn't have the dollars to pay you. They cannot borrow, even though they have Value that they carry on the books (those CDO's that the government allowed them to create and trade).
.......................................................
There is so much more to it than this.
The fact that the CDO's are created with calculated risk factors, designed by mathmeticians who create formulas that supposedly give ratings of the risk. They then use these risk factors to assign a dollar value to the CDO's... This makes them derivatives... The derivatives are then sold on margin, and traded, swapped, exchanged, and sliced and diced into totally new money instruments. All of this further obscures the values of the original mortgages. Supposedly, the risks are updated, by recalculating them (Called Mark to Market Value). Unfortunately this is not regulated and in many cases is not done at all.

The GREAT FEAR is that Banks and Brokers are holding vast sums (TRILLIONS) of dollars of securities (including CDO's) that are being held at original value, NEVER HAVING BEEN MARKED TO MARKET.

This (failure to mark to market) is also a reason why some banks and brokers are taking back their own CDO's. It allows them to keep the risky securities as base assets, without having to revalue them.

It's a spider web that is not able to be unravelled.

It's world wide, because every country in the world has bought and traded these CDO's... some countries are more involved than others, but all are affected.

Lastly... because of the derivative/hedge fund markets... much of the value was bought and sold on margin. No one anywhere knows how much of this exists, or when it comes due. The margin amount is related to the full amount (called the Notional Value). The amount of Notional value existing at any one time is staggering, ranging into hundreds of trillions of dollars on an annual basis. (forget about trying to understand this part... no one knows.)

There are virtually no regulations to cover this, and no intermediary to come in and establish values.
..........................................

Reading back on this, I realize it's a terrible explanation of a much more complex subject. It's quite a challenge to try and explain this without getting into obscure technical terms.

Because I really DO believe that we will have a meltdown, now or later, I think it's important to understand why. For those who own equities of any kind, understanding the bigger picture, may help in making decisions before this happens.

Northern Rock bank in the UK is certainly in trouble

"Shares in one of the UK's largest mortgage lenders, Northern Rock, have fallen 32% after it had to ask the Bank of England for emergency funding...."

Banking sources suggest that on Friday alone clients pulled out £1bn - or 4-5% of retail deposits.

Henry C.K.Liu, is my personal guru for all things economic.

Liu Sept 17 article

Here is just a small part of the article..

40% Liquidity Fluff....

ach....

It is my personal belief that should there be problems in the financial world that we let the market take care of itself. Government intervention only prolonged the Great Depression and helped usher in the slow rise in the size of our government. The possibility of pain and suffering are large but in the long run removing some of the shackles of government from our economy is something that needs to be done. Government meddling causes more problems than it solves.

Actually, if you have studied the situation, you will conclude that government saved this nation from breaking apart and the economy going to pre-industrial levels during the depression. Part of the delay in remedying the disaster tht the "market" wrought in the 20's came from the rulings of the right wing Supreme Court.

The government must control the economy much more than it does now in order to save us from an even worse economic disaster.

My favorite too, but Henry Liu is not light reading.

I agree with you on Liu, It's. Each of his sentences is packed with meaning and takes a long time to read properly. It is certaily worth the effort it takes!

TAT