Why Financial Collapses Are UnavoidableAnd Government Actions May Be Backfiring
Open Letter to Dominique Strauss-Kahn, Managing Director of The International Monetary Fund (IMF)
From Martin D. Weiss, Ph.D., Chairman, Sound Dollar Committee
Dear IMF Managing Director Strauss-Kahn: This past Saturday, October 11, at a joint press conference by world economic leaders, you said:
"Intensifying solvency concerns about a number of the largest U.S.-based and European financial institutions have pushed the global financial system to the brink of systemic meltdown."
Further, in an attempt to prevent that potentially traumatic outcome, some of the world's largest nations have proposed a series of new steps, including massive direct injections of taxpayer capital into private-sector banks.
This brings us to a crossroads that can determine the fate of six billion people for decades to come, a dire reality that motivates me to write you today.
I am president of Weiss Research, Inc., an independent research corporation, and Chairman of the Sound Dollar Committee, a nonprofit, nonpartisan organization founded by my father in 1959.
The Sound Dollar Committee was instrumental in helping President Dwight D. Eisenhower achieve one of the only truly balanced budgets of the past half century. And in keeping with that tradition, we continue to promote fiscal responsibility, sound business practices, and prudent investing.
Over the years, we have learned how elusive these goals can be. And by the same token, I recognize the unusual difficulty of the current challenges you face.
However, it is undeniable that the new rescue proposals being made today go beyond the already-extreme efforts announced or undertaken previously, such as the $700 billion bailout package signed into law by President Bush ten days ago, the unprecedented $1 trillion in central bank liquidity injections during the prior week, and additional extreme measures by the U.K., Germany and other leading nations.
It is also undeniable that those efforts have not yet been effective, leading us to wonder if new efforts will be any different. Before implementing them, therefore, I believe it behooves us to consider some ominous trends:
1. Government interventions are backfiring.
Since the credit crisis burst onto the global scene approximately 14 months ago, each new government countermeasure seems to have backfired.
Rather than encouraging investors to make the rational choice of shifting assets to stronger hands, governments have inadvertently done precisely the opposite. They have promoted irrational complacency. They have encouraged imprudent inaction. They may have also prompted investors to shift some assets back to weaker hands.
Repeatedly, the authorities pursued a policy that made individual and institutional investors more confident than the circumstances warranted. This policy, in turn, prompted investors to buy more common shares in insolvent banks, more junk bonds in over-rated corporations, and more derivatives contracts based on unrealistic models — all despite abundant evidence that the banks' balance sheets were continuing to deteriorate.
Earlier, various government measures seeking to reduce the panic — such as coordinated central bank intervention — did buy some time by temporarily reducing investor fears. And during those quieter interludes, policymakers were able to artificially drive down the premiums charged by lenders for higher risk loans.
But this was accomplished despite the deterioration in balance sheets.
In other words, each time governments intervened, the cost charged for risk came down, but the level of risk continued to rise. Instead of bringing stability to the marketplace, the authorities created a dangerous discrepancy between the two — between price and reality.
Result: As soon as the immediate effects of the interventions dissipated, and as soon as symptoms of the true risk levels resurfaced, there were sudden, explosive market adjustments.
Investors seeking to avoid devastating losses dumped their high-risk assets. Other investors, who otherwise might have not been unduly impacted by the turmoil, suffered parallel losses. And the general public, previously less cognizant of the financial turmoil, suffered surging anxiety.
The authorities may have exacerbated the very panic they were seeking to avoid. And now, as the public begins to connect the dots between government actions and market reactions, the quiet time bought with each new intervention has diminished or even vanished.
2. Government actions are too little, too late to stem the debt crisis.
Kindly refer to our white paper submitted to the U.S. Congress on September 25, 2008, titled "Proposed $700 Billion Bailout Is Too Little, Too Late to End the Debt Crisis; Too Much, Too Soon for the U.S. Bond Market."
In it, we detail why the U.S. debt crisis alone was far larger than previously believed. As of the first quarter, it encompassed or affected
1,479 banks and 158 thrifts at risk of failure with $3.2 trillion in assets, or 41 times the bank assets estimated at risk by the FDIC.
$14.8 trillion in residential and commercial mortgages, $20.4 trillion in consumer and corporate debt, plus $2.7 trillion in municipal debts outstanding.
$180.3 trillion in notional value derivatives, of which one single institution — JPMorgan Chase — held $90 trillion, or 49.9% of the total U.S. market share.
$465 billion in credit exposure to derivatives, up 159% from one year earlier.
Today, less than three weeks later, it appears that many of these debts and bets are falling like a house of cards. Moreover, in retrospect, it appears that many of the efforts to support or sustain them may have been futile, wasteful, or both.
3. Government actions are too much, too soon for the debt markets.
In its Fiscal Year 2009 Mid-Session Review, Budget of the U.S. Government, the Office of Management and Budget (OMB) projected the 2009 U.S. federal deficit will rise to $482 billion, a major burden on U.S. debt markets. However, that OMB projection was made before the recent bailout commitments were known or even imagined.
Since then, the expenditures and liabilities announced or proposed by the U.S. government have easily exceeded $1 trillion.
However, for the world's debt markets — the primary source of federal government deficit financing — the expectation of exploding federal deficits is damaging confidence. It may even be one of the factors responsible for the global paralysis of short-term credit markets. And it may also be one of the reasons why, this past Friday, October 10, we witnessed the worst-ever collapse of high-yield corporate bonds.
4. Government bailouts could endanger government credit and credibility.
The credit market contagion has spread in phases:
In the mortgage sector, it was initially confined to subprime mortgages. Then it reached the mid-level Alt-A mortgages. And now it has affected prime mortgages.
In short-term credit markets, it was first restricted to commercial paper issued by weak financial institutions. Next, it spread to the short-term paper of stronger financial institutions. And now it has hurt nonfinancial paper as well.
In bonds, it began with the most speculative junk bonds, then reached middle-tier bonds, and now has impacted most corporate bonds of all stripes.
Each time, frightened investors sought the safety of government paper. And each time, this fear factor drove up government bond prices while driving down their interest rates.
This may be giving U.S. Treasury officials the false impression that they enjoy strong investor demand for government securities and easy access to funds for more handouts to near-bankrupt corporations. But this influx of money may also be obscuring a frightening prospect:
Governments could be the next victims.
To the degree that the authorities pursue the purchase of bad bank assets, or to the extent that they go forward with the injection of government capital into a collapsing banking system, they may become subject to the same contagion of mistrust.
I implore you: Please do everything in your power to help prevent that from happening. If the governments' heretofore stellar credit is sucked into this crisis, it could
make it much more expensive for governments to roll over their maturing debts;
make it difficult to raise the cash needed to maintain government operations; and
ironically, deprive authorities of the last weapon they have to help bring about a subsequent recovery: The credit and credibility of the world's leading governments.
5. Government actions could aggravate, or even cause, the systemic meltdown they are seeking to prevent.
Reason should dictate that governments should do everything possible to liquidate insolvent institutions, quarantine the weakest institutions, fortify the strongest, and insulate the government's own credit from the scourge. Instead, it seems that U.S. and European authorities are doing precisely the opposite. They are engineering
shotgun mergers that sweep bad assets under the carpet of otherwise stronger institutions;
bailouts that create zombie banks and corporations, weakening the system as a whole; and
new, bigger and unaffordable FDIC-type guarantees of bank deposits that further obscure the difference between worthy and unworthy banks.
The long-term, fundamental affect of these actions is widely known: They are corrosive. They cause far more losses and pain in the end.
What's not so widely recognized is that the short-term consequences could be equally catastrophic: By
combining bad assets with good assets,
merging weak banks with strong banks, and
confusing risk with safety,
the authorities are merely making it more difficult for millions of savers and investors to discriminate between each of the above.
The result: Instead of shifting from riskier banks to safer banks, many people are exiting the banking system entirely.
Inadvertently, the authorities could be transforming what should have been a shift within the system to a run on the system.
Instead of a harsh, but ultimately manageable, collapse of the weakest institutions, they could be leading us toward the systemic meltdown you warned about this weekend.
6. Governments are squandering scarce capital that will be needed for a true recovery after any collapse.
No one wants a collapse.
We all abhor the tremendous hardship it will inevitably cause — not just for the few who have the most to lose, but also for the many who have lost hope of anything to gain.
But a financial collapse, no matter how dramatic, is not the end of the world. We have endured many such collapses before and we survived. We can survive this one as well.
Today, it seems the relevant debate is no longer whether or not a financial collapse is preventable. The collapse is already here.
Rather, the main topics worthy of discussion are how big the collapse will be, how long it will last, and what we can do today to maximize the chances of a healthy recovery in the future. Below, I provide my view on each of these topics separately:
The size of the collapse is not within our power to control. We cannot repeal the law of gravity; we cannot stop investors from selling. Nor can we turn back the clock to reverse the financial sins already committed. One way or another, the bad debts have to be expunged. And the events of recent weeks are telling us that a deflationary debt collapse may be the mechanism.
The duration of the decline depends on its speed. To the degree that we let the debt liquidation process happen naturally and manage it wisely, it should be short, fast and behind us soon; to the degree that we stop it from happening and sweep the debts under the rug, it could be long, slow and more tortuous.
It's in the nature of the subsequent recovery that I feel you can have the greatest influence today. If you protect the credit of the financially sound institutions, they can be powerful resources to help bring about a recovery. However, if you prematurely squander our precious resources now, then any subsequent recovery is bound to be weakened and delayed.
I have four recommendations, as follows:
First, cut back the bailout and rescue efforts.
Second, protect the credit and credibility of sovereign government debts.
Third, preserve public resources for (a) emergency assistance to those that are rendered ill or destitute during a secular economic decline, and (b) carefully planned economic stimulus after a secular decline.
Fourth, foster an environment of public trust by guiding consumers to research that can help them better distinguish between low- and high-risk banks, insurance companies, and other financial institutions.
I know it will be very difficult. I realize millions of people must make great sacrifices. But with the right guidance and leadership, I am sure we'll be ready to step up to the challenge.
Sincerely,
Martin D. Weiss, Ph.D.
About Money and Markets
For more information and archived issues, visit http://www.moneyandmarkets.com
Money and Markets (MaM) is published by Weiss Research, Inc. and written by Martin D. Weiss along with Tony Sagami, Nilus Mattive, Sean Brodrick, Larry Edelson, Michael Larson and Jack Crooks. To avoid conflicts of interest, Weiss Research and its staff do not hold positions in companies recommended in MaM, nor do we accept any compensation for such recommendations. The comments, graphs, forecasts, and indices published in MaM are based upon data whose accuracy is deemed reliable but not guaranteed. Performance returns cited are derived from our best estimates but must be considered hypothetical in as much as we do not track the actual prices investors pay or receive. Regular contributors and staff include Kristen Adams, Andrea Baumwald, John Burke, Amber Dakar, Dinesh Kalera, Red Morgan, Maryellen Murphy, Jennifer Newman-Amos, Adam Shafer, Julie Trudeau and Leslie Underwood.
Attention editors and publishers! Money and Markets issues can be republished. Republished issues MUST include attribution of the author(s) and the following short paragraph:
This investment news is brought to you by Money and Markets. Money and Markets is a free daily investment newsletter from Martin D. Weiss and Weiss Research analysts offering the latest investing news and financial insights for the stock market, including tips and advice on investing in gold, energy and oil. Dr. Weiss is a leader in the fields of investing, interest rates, financial safety and economic forecasting. To view archives or subscribe, visit http://www.moneyandmarkets.com.
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Bloomberg.com
market-ticker.denninger.net
eyeonmiami.blogspot.com
conotary.com
Showing posts with label US Financial Structure. Show all posts
Showing posts with label US Financial Structure. Show all posts
Monday, October 13, 2008
Monday, July 28, 2008
Unthinkable Truth; Undeniable Reality by Martin D. Weiss, Ph.D.
Unthinkable Truth; Undeniable Reality by Martin D. Weiss, Ph.D.
The truth may be unthinkable, but the reality is undeniable:
Much of our nation's financial structure is collapsing, and our government's only response is phony money, bogus bailouts and a litany of false promises.
Ben Bernanke, Henry Paulson, the FDIC and the U.S. Congress say they can do it all.
They say they can save bankrupt brokers like Bear Stearns ... take over recently failed banks like IndyMac Bank and First National of Nevada ... prop up insolvent mortgage giants like Fannie Mae and Freddie Mac ... refinance millions of defaulting mortgages ... dish out hundreds of billions in tax rebates ... and still have enough cash in the kitty to cover the next round of financial collapses.
They say their unbridled money printing won't devalue the U.S. dollar.
They say their unlimited pledge to guarantee junk mortgage bonds won't sabotage the credit of the U.S. Treasury.
They say their blank checks to private companies won't rip off U.S. taxpayers.
They'd have you believe they can outlaw the cycle of boom and bust ... repeal the law of supply and demand ... even freeze the march of time.
In the real world, of course, no government in history has ever been able to do anything of the kind, and they know it.
In the real world, their "solution" is part of the problem, and they know that too.
They know that wealth is generated from work — not from the paper money they're printing. They understand the hazards of indulging the most daring debtors and rescuing the most reckless risk-takers.
They know darn well the fatal flaws of the course they've chosen. But they proceed to pursue it anyhow.
Why? Because, behind the façade of their feel-good happy talk and beneath the thin veneer of their Pollyanna optimism, nearly every single one of our leaders — including Bernanke and Paulson, Democrats and Republicans — is really a gloom-and-doom pessimist in disguise.
They are pessimists inasmuch as they have little faith in America's ability to confront hard times. They greatly underestimate our ability to cope and adapt. They think we can't handle the truth.
I disagree. In the Great Depression, our parents and grandparents faced the unthinkable truth and created a stronger country as a result. They confronted the truth again during World War II and helped create a better world in its aftermath.
I believe we can do that too. We have the resources. We have the knowledge. And we have the added benefit of hindsight. But before we move forward, we must admit five irrefutable facts:
Irrefutable fact #1: Ours is a debt-addicted society,and weeding out the bad debts is the first step toward true recovery.
Irrefutable fact #2: By far the biggest pile-up of debts is in mortgages — $14.7 trillion, according to the Federal Reserve's latest Flow of Funds report (see PDF page 64, Table L.4, line 9).
Irrefutable fact #3: Among those mortgages, a quarter to a third could go bad: Their terms are high risk for both borrower and lender. Their collateral is shaky. Most should never have been created in the first place.
Irrefutable fact #4: When bad debts go into default, there is no free lunch. Somebody has to pay the price. The only question is: Who?
Irrefutable fact #5: The overwhelming bulk of the bad mortgages were created to help Americans move into homes that were priced far above their means. But the only way to correct this problem is to let natural market forces drive home prices back down to much lower levels.
Do most of our leaders have the wisdom and moral fiber to confess to these truths? Not yet. But in the not-too-distant future, they will have no other choice.
Reason: America's housing marketplace is bigger than any government; its power, greater than any law. It is the single largest asset class in the world. It packs the most powerful forces of supply and demand ever assembled in history.
And right now, it's tearing down some of our nation's largest banks. Two examples ...
Washington Mutual In a Death Spiral?
Washington Mutual, America's largest savings and loan, is unfortunately, also one of the nation's largest subprime lenders.
A direct consequence: It appears to be in a death spiral, losing $3.3 billion in the second quarter ... admitting to losses of as much as $19 billion this year ... and probably on its way to losses of an estimated $26 billion.
That estimated loss is over four times its total market value as of Friday's close ... twelve times its yearly earnings in the best of times.
Can it get a new capital infusion to stave off failure?
Perhaps. But on April 8, Washington Mutual already got an injection of $7 billion from private equity firm TPG Capital. And now, less than five months later, an amount equivalent to TPG's entire investment has been more than wiped out with the plunge in Washington Mutual's shares — to a meager $3.82 on Friday.
What's worse, the TPG deal restricts Washington Mutual's ability to raise new, desperately needed capital going forward. And further impairing its ability to raise capital, Moody's announced that it is reviewing the thrift for a downgrade to junk status.
Here's the big problem: As of the latest reckoning, Washington Mutual has $214.6 billion in residential mortgages on its books. And among those, more than three-quarters are in non-traditional categories — option ARMs, subprime loans, home equity loans and multi-family mortgages. Less than one-quarter is of the traditional, single-family prime variety.
Just in option ARMs alone, Washington Mutual has $52.9 billion, one of the biggest such portfolios in the industry. Moreover, 62.5% of its option ARMs are in two of the hardest hit states — Florida and California.
Nonperforming assets are growing by an average of 36% each quarter. If they continue to grow at that rate, they could reach a whopping 6.7% of total assets by year-end.
Investors are pulling out. Rumors are swirling that creditors may be doing the same. Bankruptcy looms.
Wachovia Also Suffering Huge Losses
Wachovia, the nation's fourth largest bank with nearly $800 billion in assets, is also in danger. Its staggering $8.9 billion loss reported last week may be just the tip of the iceberg.
Its big blunder: The acquisition of subprime lender Golden West Financial for $24 billion at the very peak of the real estate market in 2006.
The net result for the bank: It's now stuck with option ARMs valued at $122 billion concentrated in California, the state with one of the worst mortgage default rates.
Net result for shareholders: Over $55 billion of their wealth has been wiped out since the acquisition — more than double the total purchase price of Golden West.
The big problem going forward: Wachovia has $231 billion in residential real estate loans on the books. But only 22% of these are classified as "traditional mortgages." Most of the rest are higher risk.
My Recommendations
Recommendation #1. If you haven't done so already, check the safety of your bank.
Yes, your deposits are insured by the FDIC up to $100,000. But there are still risks and inconveniences of getting stuck in a failed bank or thrift.
For example, if your principal is $100,000, your accrued interest could be at risk. And if your account is a business checking account with large uncashed checks outstanding, even though your book balance may be under the $100,000 limit, your actual bank balance may be over the limit. So those funds may also be at risk.
Even with your insured deposits, after a messy failure, there could be a significant delay in regaining access to your money. You will get your $100,000. But don't expect it to happen overnight. To get a free safety rating on your institution, follow these steps:
Step 1. Go to TheStreet.com's Banks & Thrifts Screener.
Step 2. Look for the green box to enter your information. Under "Bank Name," type in only the first word of your institution's name.
Step 3. To the right of your bank or thrift's name, make note of its rating: A is excellent, B is good, C is fair, D is weak and E is very weak.
Step 4. Use these general guidelines:
If your bank or thrift is rated B+ or better, we believe it's secure.
If its rating is between B- and C-, check it a few times per year to make sure it hasn't fallen below C-.
If it's D+ or lower, seriously consider switching to a safer institution, of which there are many to choose from.
Recommendation #2. Also consider moving most of your savings and checking to a Treasury-only money market fund. Treasury-only money funds are not insured by the FDIC. But I think that's a moot point because the investments they buy enjoy the direct guarantee of the United States Treasury, with no $100,000 limitation.
Examples:
American Century Capital Preservation Fund
Dreyfus 100% U.S. Treasury Money Market Fund
Fidelity U.S. Treasury Money Market Fund, and
Our affiliate's Weiss Treasury Only Money Market Fund.
Recommendation #3. If you haven't done so already, dump any bank shares that you may own, whether at a profit or a loss. The recent Fed- and SEC-inspired rally was a gift — a last chance to get out at somewhat better prices.
Recommendation #4. Your investments, your business or your income may still be vulnerable to collapsing mortgages and other debts. For protective hedges, check Our Comprehensive List of Inverse ETFs and consult with your advisor or money manager to select the ones that best match your needs.
Good luck and God bless!
Martin
About Money and Markets
For more information and archived issues, visit http://www.gliq.com/cgi-bin/click?weiss_mam+102701-5+MAM1027SPLIT1
Money and Markets (MaM) is published by Weiss Research, Inc. and written by Martin D. Weiss along with Tony Sagami, Nilus Mattive, Sean Brodrick, Larry Edelson, Michael Larson and Jack Crooks. To avoid conflicts of interest, Weiss Research and its staff do not hold positions in companies recommended in MaM, nor do we accept any compensation for such recommendations. The comments, graphs, forecasts, and indices published in MaM are based upon data whose accuracy is deemed reliable but not guaranteed. Performance returns cited are derived from our best estimates but must be considered hypothetical in as much as we do not track the actual prices investors pay or receive. Regular contributors and staff include Kristen Adams, Andrea Baumwald, John Burke, Amber Dakar, Dinesh Kalera, Christina Kern, Red Morgan, Maryellen Murphy, Jennifer Newman-Amos, Adam Shafer, Julie Trudeau and Leslie Underwood.
Attention editors and publishers! Money and Markets issues can be republished. Republished issues MUST include attribution of the author(s) and the following short paragraph:
This investment news is brought to you by Money and Markets. Money and Markets is a free daily investment newsletter from Martin D. Weiss and Weiss Research analysts offering the latest investing news and financial insights for the stock market, including tips and advice on investing in gold, energy and oil. Dr. Weiss is a leader in the fields of investing, interest rates, financial safety and economic forecasting. To view archives or subscribe, visit http://www.gliq.com/cgi-bin/click?weiss_mam+102701-5+MAM1027SPLIT1.
The truth may be unthinkable, but the reality is undeniable:
Much of our nation's financial structure is collapsing, and our government's only response is phony money, bogus bailouts and a litany of false promises.
Ben Bernanke, Henry Paulson, the FDIC and the U.S. Congress say they can do it all.
They say they can save bankrupt brokers like Bear Stearns ... take over recently failed banks like IndyMac Bank and First National of Nevada ... prop up insolvent mortgage giants like Fannie Mae and Freddie Mac ... refinance millions of defaulting mortgages ... dish out hundreds of billions in tax rebates ... and still have enough cash in the kitty to cover the next round of financial collapses.
They say their unbridled money printing won't devalue the U.S. dollar.
They say their unlimited pledge to guarantee junk mortgage bonds won't sabotage the credit of the U.S. Treasury.
They say their blank checks to private companies won't rip off U.S. taxpayers.
They'd have you believe they can outlaw the cycle of boom and bust ... repeal the law of supply and demand ... even freeze the march of time.
In the real world, of course, no government in history has ever been able to do anything of the kind, and they know it.
In the real world, their "solution" is part of the problem, and they know that too.
They know that wealth is generated from work — not from the paper money they're printing. They understand the hazards of indulging the most daring debtors and rescuing the most reckless risk-takers.
They know darn well the fatal flaws of the course they've chosen. But they proceed to pursue it anyhow.
Why? Because, behind the façade of their feel-good happy talk and beneath the thin veneer of their Pollyanna optimism, nearly every single one of our leaders — including Bernanke and Paulson, Democrats and Republicans — is really a gloom-and-doom pessimist in disguise.
They are pessimists inasmuch as they have little faith in America's ability to confront hard times. They greatly underestimate our ability to cope and adapt. They think we can't handle the truth.
I disagree. In the Great Depression, our parents and grandparents faced the unthinkable truth and created a stronger country as a result. They confronted the truth again during World War II and helped create a better world in its aftermath.
I believe we can do that too. We have the resources. We have the knowledge. And we have the added benefit of hindsight. But before we move forward, we must admit five irrefutable facts:
Irrefutable fact #1: Ours is a debt-addicted society,and weeding out the bad debts is the first step toward true recovery.
Irrefutable fact #2: By far the biggest pile-up of debts is in mortgages — $14.7 trillion, according to the Federal Reserve's latest Flow of Funds report (see PDF page 64, Table L.4, line 9).
Irrefutable fact #3: Among those mortgages, a quarter to a third could go bad: Their terms are high risk for both borrower and lender. Their collateral is shaky. Most should never have been created in the first place.
Irrefutable fact #4: When bad debts go into default, there is no free lunch. Somebody has to pay the price. The only question is: Who?
Irrefutable fact #5: The overwhelming bulk of the bad mortgages were created to help Americans move into homes that were priced far above their means. But the only way to correct this problem is to let natural market forces drive home prices back down to much lower levels.
Do most of our leaders have the wisdom and moral fiber to confess to these truths? Not yet. But in the not-too-distant future, they will have no other choice.
Reason: America's housing marketplace is bigger than any government; its power, greater than any law. It is the single largest asset class in the world. It packs the most powerful forces of supply and demand ever assembled in history.
And right now, it's tearing down some of our nation's largest banks. Two examples ...
Washington Mutual In a Death Spiral?
Washington Mutual, America's largest savings and loan, is unfortunately, also one of the nation's largest subprime lenders.
A direct consequence: It appears to be in a death spiral, losing $3.3 billion in the second quarter ... admitting to losses of as much as $19 billion this year ... and probably on its way to losses of an estimated $26 billion.
That estimated loss is over four times its total market value as of Friday's close ... twelve times its yearly earnings in the best of times.
Can it get a new capital infusion to stave off failure?
Perhaps. But on April 8, Washington Mutual already got an injection of $7 billion from private equity firm TPG Capital. And now, less than five months later, an amount equivalent to TPG's entire investment has been more than wiped out with the plunge in Washington Mutual's shares — to a meager $3.82 on Friday.
What's worse, the TPG deal restricts Washington Mutual's ability to raise new, desperately needed capital going forward. And further impairing its ability to raise capital, Moody's announced that it is reviewing the thrift for a downgrade to junk status.
Here's the big problem: As of the latest reckoning, Washington Mutual has $214.6 billion in residential mortgages on its books. And among those, more than three-quarters are in non-traditional categories — option ARMs, subprime loans, home equity loans and multi-family mortgages. Less than one-quarter is of the traditional, single-family prime variety.
Just in option ARMs alone, Washington Mutual has $52.9 billion, one of the biggest such portfolios in the industry. Moreover, 62.5% of its option ARMs are in two of the hardest hit states — Florida and California.
Nonperforming assets are growing by an average of 36% each quarter. If they continue to grow at that rate, they could reach a whopping 6.7% of total assets by year-end.
Investors are pulling out. Rumors are swirling that creditors may be doing the same. Bankruptcy looms.
Wachovia Also Suffering Huge Losses
Wachovia, the nation's fourth largest bank with nearly $800 billion in assets, is also in danger. Its staggering $8.9 billion loss reported last week may be just the tip of the iceberg.
Its big blunder: The acquisition of subprime lender Golden West Financial for $24 billion at the very peak of the real estate market in 2006.
The net result for the bank: It's now stuck with option ARMs valued at $122 billion concentrated in California, the state with one of the worst mortgage default rates.
Net result for shareholders: Over $55 billion of their wealth has been wiped out since the acquisition — more than double the total purchase price of Golden West.
The big problem going forward: Wachovia has $231 billion in residential real estate loans on the books. But only 22% of these are classified as "traditional mortgages." Most of the rest are higher risk.
My Recommendations
Recommendation #1. If you haven't done so already, check the safety of your bank.
Yes, your deposits are insured by the FDIC up to $100,000. But there are still risks and inconveniences of getting stuck in a failed bank or thrift.
For example, if your principal is $100,000, your accrued interest could be at risk. And if your account is a business checking account with large uncashed checks outstanding, even though your book balance may be under the $100,000 limit, your actual bank balance may be over the limit. So those funds may also be at risk.
Even with your insured deposits, after a messy failure, there could be a significant delay in regaining access to your money. You will get your $100,000. But don't expect it to happen overnight. To get a free safety rating on your institution, follow these steps:
Step 1. Go to TheStreet.com's Banks & Thrifts Screener.
Step 2. Look for the green box to enter your information. Under "Bank Name," type in only the first word of your institution's name.
Step 3. To the right of your bank or thrift's name, make note of its rating: A is excellent, B is good, C is fair, D is weak and E is very weak.
Step 4. Use these general guidelines:
If your bank or thrift is rated B+ or better, we believe it's secure.
If its rating is between B- and C-, check it a few times per year to make sure it hasn't fallen below C-.
If it's D+ or lower, seriously consider switching to a safer institution, of which there are many to choose from.
Recommendation #2. Also consider moving most of your savings and checking to a Treasury-only money market fund. Treasury-only money funds are not insured by the FDIC. But I think that's a moot point because the investments they buy enjoy the direct guarantee of the United States Treasury, with no $100,000 limitation.
Examples:
American Century Capital Preservation Fund
Dreyfus 100% U.S. Treasury Money Market Fund
Fidelity U.S. Treasury Money Market Fund, and
Our affiliate's Weiss Treasury Only Money Market Fund.
Recommendation #3. If you haven't done so already, dump any bank shares that you may own, whether at a profit or a loss. The recent Fed- and SEC-inspired rally was a gift — a last chance to get out at somewhat better prices.
Recommendation #4. Your investments, your business or your income may still be vulnerable to collapsing mortgages and other debts. For protective hedges, check Our Comprehensive List of Inverse ETFs and consult with your advisor or money manager to select the ones that best match your needs.
Good luck and God bless!
Martin
About Money and Markets
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Money and Markets (MaM) is published by Weiss Research, Inc. and written by Martin D. Weiss along with Tony Sagami, Nilus Mattive, Sean Brodrick, Larry Edelson, Michael Larson and Jack Crooks. To avoid conflicts of interest, Weiss Research and its staff do not hold positions in companies recommended in MaM, nor do we accept any compensation for such recommendations. The comments, graphs, forecasts, and indices published in MaM are based upon data whose accuracy is deemed reliable but not guaranteed. Performance returns cited are derived from our best estimates but must be considered hypothetical in as much as we do not track the actual prices investors pay or receive. Regular contributors and staff include Kristen Adams, Andrea Baumwald, John Burke, Amber Dakar, Dinesh Kalera, Christina Kern, Red Morgan, Maryellen Murphy, Jennifer Newman-Amos, Adam Shafer, Julie Trudeau and Leslie Underwood.
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