The Financial Sector Continues to Deteriorate

From the FDIC:

The continued downturn in the credit cycle, combined with lingering weakness in financial markets and falling asset values, had a pronounced negative effect on banking industry performance in the second quarter. Insured commercial banks and savings institutions reported net income of $5.0 billion for the second quarter of 2008. This is the second-lowest quarterly total since 1991 and is $31.8 billion (86.5 percent) less than the industry earned in the second quarter of 2007. Higher loan-loss provisions were the most significant factor in the earnings decline. Loss provisions totaled $50.2 billion, more than four times the $11.4 billion quarterly total of a year ago. Second-quarter provisions absorbed almost one-third (31.9 percent) of the industry's net operating revenue (net interest income plus total noninterest income), the highest proportion since the third quarter of 1989. A year ago, provisions absorbed only 7.3 percent of industry revenue. The average return on assets (ROA) in the second quarter was 0.15 percent, compared to 1.21 percent a year earlier. Large institutions as a group had more substantial earnings erosion than smaller institutions, but downward earnings pressure was widely evident across the industry. At institutions with assets greater than $1 billion, the average ROA in the second quarter was 0.10 percent, down from 1.23 percent a year ago. At institutions with less than $1 billion in assets, the average second-quarter ROA was 0.57 percent, compared to 1.10 percent in the second quarter of 2007. More than half of all insured institutions (56.4 percent) reported year-over-year declines in quarterly net income, and almost two out of every three institutions (62.1 percent) reported lower ROAs. Almost 18 percent of all insured institutions were unprofitable in the second quarter, compared to only 9.8 percent in the second quarter of 2007.

Let's take this piece by piece

The continued downturn in the credit cycle, combined with lingering weakness in financial markets and falling asset values, had a pronounced negative effect on banking industry performance in the second quarter.

An old rule of writing is, "tell them what you're going to tell them, tell them, and then tell them what you told them." This is the opening line -- and it is terrible. We know nothing good is coming.

Insured commercial banks and savings institutions reported net income of $5.0 billion for the second quarter of 2008. This is the second-lowest quarterly total since 1991 and is $31.8 billion (86.5 percent) less than the industry earned in the second quarter of 2007.

Earnings are down -- big time. This is the second lowest net income we've seen since 1991 -- that's over 15 years. In addition, earnings are dropping hard on a year over year basis, indicating the problems are not getting better but are getting worse.

Higher loan-loss provisions were the most significant factor in the earnings decline. Loss provisions totaled $50.2 billion, more than four times the $11.4 billion quarterly total of a year ago

The biggest reason things are getting worse is banks are preparing for higher losses from more bad loans. Loan loss provisions are increasing four-fold. That's a tremendous increase.

Second-quarter provisions absorbed almost one-third (31.9 percent) of the industry's net operating revenue (net interest income plus total noninterest income), the highest proportion since the third quarter of 1989. A year ago, provisions absorbed only 7.3 percent of industry revenue.

33% of the industry's second quarter revenue went to loan loss reserves. That's the most since the end of the S&L crisis.

The average return on assets (ROA) in the second quarter was 0.15 percent, compared to 1.21 percent a year earlier.

Story continues below

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Put another way -- banks are barely making any money on any of their assets.

More than half of all insured institutions (56.4 percent) reported year-over-year declines in quarterly net income, and almost two out of every three institutions (62.1 percent) reported lower ROAs.

The losses (and subsequently the problems) within the insured bank industry are wide-spread.

Let's look at some pertinent charts from the report:

The non-current loan and charge off rate is higher than at any time in the last 14 years. And the number is clearly increasing, indicating we're nowhere near the end of this.

Real estate loans are a big reason for the problems. People are defaulting in droves. Again -- the number is increasing, indicating we're nowhere near the bottom of this.

The default rate on home loans is increasing as well.

And that's not all:

The U.S. Federal Deposit Insurance Corp. said its ``problem list'' of banks increased 30 percent in the second quarter to the highest total in five years as more commercial real-estate loans were overdue.

The list had 117 banks as of June 30, up from 90 in the first quarter and the highest since mid-2003, the agency said today in its quarterly report without naming any institutions. FDIC-insured lenders reported net income of $4.96 billion, down 87 percent from $36.8 billion in the same quarter a year ago.

``More banks will come on the list as credit problems worsen,'' FDIC Chairman Sheila Bair said at a news conference in Washington.

As a result:

Federal Deposit Insurance Corp. Chairman Sheila Bair said Tuesday her agency might have to borrow money from the Treasury Department to see it through an expected wave of bank failures.

Ms. Bair said the borrowing could be needed to cover short-term cash-flow pressures caused by reimbursing depositors immediately after the failure of a bank. The borrowed money would be repaid once the assets of that failed bank are sold.

The last time the FDIC borrowed funds from Treasury came at the tail end of the savings-and-loan crisis in the early 1990s after thousands of banks were shuttered. That the agency is considering the option again, after the collapse of just nine banks this year, illustrates the concern among Washington regulators about the weakness of the U.S. banking system in the wake of the credit crisis.

None of this should be surprising.

Let's tie all of this together.

The charts from the latest QBP indicate the trend in real estate related loans is or further deterioration. As a result, we can expect the FDIC's list of problem banks to grow, which will force the FDIC to ask the Treasury for more money. This at a time when the Treasury has been given an unfettered line of credit to pump into Fannie and Freddie.

The Treasury will be writing an awful lot of checks in the coming quarters.

Comments

[bernusdellus]

If you read these comments Hale, I'd appreciate your thoughts on this question.

If the Federal Reserve has issued 100% of all dollars in existence, where is the cash going to come from to pay the interest on that 100% of existing dollars.

It seems logical that the fed would issue more dollars in order for the interest to be paid but then... Where does the cash come from to pay the interest on the new money that was issued to pay the interest on the old money?

Logic says that this is an inevitable downward spiral where the percentage of interest to principal will ultimately grow towards the asymptotic end of the bell-shaped curve.

There is no way that the money can ever be fully paid back. It can only be kept rolling by increasing the debt.

I'm either badly mistaken about this or the U.S. is in hock forever [really forever] to the shareholders of the Federal Reserve Bank!

Your thoughts?

[researcher]

not a person on here understands this is the demise of capitalism.

we are living through it one day at a time while we blame people rather than look at the system

we borrow from communists, socialists and kings and then continue on with our style of capitalism

paradigms again

full economic decline must occur before americans will even consider giving up their cherished beliefs in capitalism

but that is the power of paradigms

we want more of the same even while the same takes us down the tubes

as communism failed so does capitalism fail

americans cheered when communism failed in russia without realizing that captialism will soon be failing.

it is now failing but no one dare challenge capitalism or be called a traitor.

[dadw5boys]

IF you mean we are wittnessing the RISE OF A WORLD WIDE FACIST STATE we know that and we are fighting it.

[MajorKong]

Perhaps selling our houses to each other wasn't the best thing to base the economy on?

[dadw5boys]

COLLUSION, FRAUD, AND ORGANIZED CRIME !

THE RICO ACT ALLIED HERE WOULD BE SMART!

The loan companies conspired to make a lot of money by fooling investors like investment banks with Overvalued home so the loans appeared to have more value than the loans against them.

Collusion when the property appraiser overvalues the homes for a bonus.

Fraud when the overvalued appraisials were bundled for sell.

Organized crime when they did it the 3 rd time.
Like Country Wide who had offices all over the place.

[arvay]

One possible good outcome: executives who pioneered and enabled the loan fraud scandal will be fired and not re-hired by the industry, which will call out for better regulation. The food companies have already learned how their earlier call for deregulation resulted in the e coli disasters, costing them a fortune. Maybe Obama's Wall Street donors are these kinds of business types.

[JBS]

Bet me!

[Harod]

So I guess this means there are more guys that want to be bailed out for another trillion dollars added onto the national debt..

[Sundialsvc4]

What I want to see the government do, Hale, is to force some business-changes upon those banks. Not just "those" banks, but the entire industry.

For example: outlaw the fees-and-penalties system that right now produces so large of a figure on the bank's balance sheet. Playing with payment posting-dates to scoop up hundreds of dollars in "NSF fees" and "late fees" is not ... is not the business a bank is supposed to be in. Presumably, banks are supposed to be processing their transactions in the manner most-equitable to the depositor ... not themselves ... and an account that's spewing NSFs and late-fees must be in trouble. (What banks are actually doing is just, "stealing.")

Also: wouldn't it be better to re-price a loan so that it can actually perform SOMEWHAT, rather than charge the whole thing off? Lower the interest-rate, forgive part of the principal if the collateral isn't worth that much, and so on. Keep that person in that house. Keep that debt "believable."

Banks are quick to charge-off loans when they've already sold them off as a security. But banking should be a long-term business. Federal takeover should not be an "escape hatch."

Let's overhaul the -business- of banking. Let's change the rules (back).

[dadw5boys]

WOW YOU MEAN REGULATIONS LIKE WE HAD TO POREVENTING THIS FROM HAPPENING FOR THE LAST 80 YEARS !

The HATCH ACT was good regualtions and protect the USA and our Ecomony.

[dadw5boys]

THERE IS A LANDSLIDE OF COMMERICAL PROPERTY FORECLOSERS COMMING AND IT WILL TAKE HUNDREDS OF BANKS WITH IT !!!!!!!!!!!!

[rwe2late]

On a macro scale, the financial collapse is part and parcel of the larger failure of the US hegemony racket.

The US dollar is not gold backed, but it is oil backed. As long as the US can run a protection racket for oil sheikhs, they will obligingly only sell their oil for fiat US dollars. That compels other nations to obtain and accept US dollars as the "world" currency for oil. The financial derivatives scam was only made possible by the necessity for other nations to unload (invest??) excess fiat dollars.

The protection racket began to unravel when Saddam went off the Petrodollar. Now the US is keen on "securing" (PNAC"s terminology) oil resources, and preventing Iran, Venezuela, and others from breaking the US controlled oil dollar monopoly.

However, the military costs of US attempts are deforming the US and world economies. The subsidizing of US consumption and militarism doubly taxes other countries. The dollar is not strengthening, but only falling less quickly than other totally fiat currencies, which aren"t even partially oil backed.

"Safe" investment? For those willing to abandon all pretense of morality, they may try to grab a bite of the profits of arms merchants and so-called security contractors. They do not yet seem willing to abandon their business without spilling more blood and abolishing more freedoms. For the rest of us, our only safety will come in stopping them.

[KillTheMessenger]

A bank here, a bank there, soon it adds up to real money.

:-)

[Rule Of Law]

So Hale, a question:

If you had $227k in cash right now, where would you put it?

A bank account, with the erosion of the dollar is a guaranteed loser just in terms of interest earned being less than the cost of the devaluation.

Add to that the fear that the same bank might not open for business tomorrow, and the situation looks grim.

The stock market is poised to tank once the bank runs begin.

CD's or other government bonds? What are the chances of a default here, when the FDIC can't cover their insurance obligations to the banks and the Federal Government decides to do the same on it's loans to us?

Money market account? I don't think so.

So what, and where is the safest place for a chunk of cash?

Hoping you answer.

[DuganS1]

The dollar has been appreciating sharply over most currencies recently. It went from $160 per euro in mid-July to $146 yesterday -- the euro reached as high as $149.5 both last year November and this past January, so the dollar is currently up against the euro since both those periods. The dollar has also appreciated significantly since March against the yen, or from 103 yen to the dollar in mid-March to 90 yen to the dollar now. The dollar has also been strengthening vs the Canadian dollar in the last months, and significantly against the Austrailian dollar since mid-July (from $98 per Ausie dollar up to $86 per Aussie dollar). As far as where to put your money, watch for a double bottom in the S&P 500 at 1200 and buy equities then.

[swift goat pet for truth]

This view of the dollar is too short term.
Consider the article. US financials deteriorate, dollar deteriorates.

[Novista]

You think it was a dollar rally? Information from Japan's Nikkei indicates an agreed intervention by three central banks to prop up the dollar. What happens when they're tapped out?

Now, how much damage could Russia do, if they had a mind to? Economic warfare is a possibility ...

[JBS]

You got the decimal point in the wrong place.

[olephart]

Lacking a crystal ball, diversification is required. An asset allocation program for the worst of times merged with one for better times. It's an individual's choice on how they perceive the unfolding of the current state of affairs.

A note on the Foreign Exchange crowd, they are like children playing on a teeter totter, they all run to one end and stay there until they run back to the other. Right now they are bumping into one another. Do not think that these people are rational.

List assets classes from gold to small Russian growth stocks and allocate your assets to insure that you will have eggs regardless of how the baskets get tossed around.

Here's a hypothetical list:

Physical gold
Physical silver
Precious metals fund
Gold/Silver mining stocks
Foreign bond funds (European)
Foreign growth stocks (European)
FDIC insured certificates of deposit/money market funds
US Savings bonds (I bonds)
US growth stocks
US large cap income stocks
Totally wild assed speculative stocks (small change)
US bond fund
US S&P index fund (low charge)

Never pay loads and always watch the management costs.

As to the US defaulting, never underestimate the power of the press.

[Rule Of Law]

Ole, thanks, as usual. Refresh me--you live near Amish Country, right? Boy that life style never looked better to me. Mom just moved in with a chunk of $. The mattress looks like the best bet, but please elaborate on your rationale for these choices, and your feelings re the FDIC and the 100k guarantee on accounts and the prospect of the whole country going Brazil. Seriously.

[Aaror]

I'm not a fan of holding metal when I can own a company that mines the metal, so I would skip the top three on your list. Also, a smart investor invests for the long haul, and their personal situation. I expect to have a dollar denominated income that will be relatively fixed into the future, and would like to live in a nation which doesn't have the problems (including outstanding debt) the US has, so I am better off with investments that will pay Euros or Aussie Dollars. so I would skip the bottom half of your list. I hold mining stocks, the hong kong index, a couple european indexes, and will be buying some annuities denominated in foreign currencies in a few years. The latter is because my family have long lifespans, so I can "win the bet," that I will live past when the annuity is a bad investment.
I really think that if you believe the US is tanking, you need to know which way to jump. China and Europe are best positioned to regain their footing first, so I would invest there.

[swift goat pet for truth]

Not a fan of mining stocks, although I own a lot, because of the volitility.
The EU has their own set of problems that, to me, the market is not recognizing.
US treasuries worry the heck out of me.

US Corps are multinational, so the bonds and stocks are as safe as anything.
Physical metal has its attractions.

If I had the bucks and the access, I like land, but selectively.
It might not hold dollar price, but it should hold value.

[racom]

I would strongly recommend heavy investment in 'currency ink' production companies. The currency presses are running 24/7 and can't keep up. Now watch for bush to privatize the printing operation and then throw all you have left into that!

[Rule Of Law]

I thought that the money printing biz already was privatized--The FED just outsources it to Treasury! LOL

[mosh]

How does this kind of bailout effect the strength of the dollar?

[JBS]

The dollar will be "stronger" as long as foreign banks choose to continue propping it up.

... or perhaps "not as weak" would be a better way to phrase it.

Makes sense. The dollar's fall has been so precipitous, foreign banks with dollar holdings seek to slow that fall until they can unload those dollars.

[biwee]

Laws were enacted in the 1930s to prevent the current banking disasters. The Republican Congress and Clinton cancelled these laws. Americans must understand that, in a representative democracy, voters get exactly what they vote for. If you want more of this lunacy, vote for McCain.

[marijam]

Quorum? Know what that means?

[joebhed]

Or Obama.

Either way.
Same old, same old

Did you read the huge NYT mag piece on Obamanomics?

Nothing new there.
No solutions to these mega-debt money problems.

Obama's economic advisors are a pinch to the right of Clinton's.
And when I say Clinton's, remember what you wrote.
""The Republican Congress and Clinton canceled these laws.""

When it comes to economic democracy, hat tip to C.H. Douglas, it's the Republicrats that we're facing. A little twist of tax policy, a little fiscal stimulus.

They would all rather pillage the next generation or two of American workers than to hand a little needed justice to their moneyed handlers.

[philistine]

"...The Treasury will be writing an awful lot of checks in the coming quarters."

Our tax dollars at work. :P

[nezumi]

Actually, fantasy money - adding to inflation by letting the printing presses run hot. Although in modern times you don't even really have to print money anymore.

[philistine]

I do spend these things called dollars, and they don't go as far as they used to. And I do pay taxes, some portion of which will now be used to bail out a lot of people who earn more in a year than I will in a lifetime. Unfortunately, that is not a fantasy.

This disastrous administration can't end soon enough. It never should have even started.