The Financial Sector Becomes a Call Option

It's a good thing that the US markets were closed Monday for the Martin Luther King holiday. Pity they weren't closed today. The DJIA fell below 8,000, losing 4%, its poorest performance on any Inauguration Day since the index was started 124 years ago. The tech-heavy Nasdaq and the broader Standard & Poor's 500-stock index both plunged more than 5%. The S&P is now down 49% since its peak and the DJIA is off 45% from its high.

Leading the collapse is the global financial sector which has in essence become a call option. The catalyst for the collapse was news out of the United Kingdom where shares of the Royal Bank of Scotland plunged 68% on Monday after the bank admits it was poised to report £28bn ($41 billion USD) in losses. The shares fell another 74% today. Stock markets around the world absorbed the news poorly. Sydney was off 4% on Monday. The Nikkei was off 2.3% on Monday and then another 2.6% on Tuesday. In early trading on Wednesday, the Nikkei is off another 1.9%. It has so far lost 10.7% for the year.

Here's the crux of the problem.

The federal government's promise to prevent the failure of large U.S. banks may be exacerbating their problems. As banks sink, financial analysts increasingly are warning that government intervention is inevitable and could come at the expense of shareholders, perhaps in the form of nationalization. This appears to be driving away investors and hastening the intervention. As with the government's summer promise to save Fannie Mae and Freddie Mac, but only if necessary, the last resort has become the expected outcome.

Until banks can attract fresh capital from debt or equity investors, it will be difficult to stabilize and jump-start lending, said Binky Chadha, chief U.S. equity strategist at Deutsche Bank in New York. But the government's patchwork approach to the bailout has would-be investors sitting on the sidelines, he said.

"In each episode of financial intervention, the rules have been a little different," Chadha said. "Hopefully [the new administration] will lay out the rules, and it will be a lot clearer. In the meantime, the textbook model of wiping out the equity holders is clearly a concern, and should be a concern."

The basic problem facing the financial industry, and the new administration, is that banks lack the money to cover their losses. The capital reserves that banks are required by regulators to maintain against losses have been badly eroded.

Financial markets like clarity and transparency and right now there isn't much of that or perhaps better put there hasn't been much as the Bush Administration struggled to find a message. But it is also clear that the level of "toxic waste" runs into the trillions. The US banking industry has acknowledged losses of roughly $1 trillion since the start of the financial crisis. Goldman Sachs last week projected that this total could more than double. Nouriel Roubini, a professor at New York University's Stern School of Business noted for his pessimism, said yesterday that losses could hit $3.6 trillion.

Cleaning this up requires having a team in place forthwith. The TARP has stemmed the market's panic in the Fall, but it has not succeed in stabilizing the financial industry. Timothy Geithner's hearings should proceed as quickly as possible.

Tags: Global Financial Crisis, US Financial Markets (all tags)



Re: The Financial Sector Becomes a Call Option

Next step- nationalisastion for the UK, and are we far behind?

TARP has failed because the people who got us into this mess can not be trusted to get us out of it. They proceed eat cake while Rome burns. This is who they are. They are as deeply pathological as the now, thankfully, former Bush adminstration. They refuse to learn because it's all about them.

by bruh3 2009-01-20 07:02PM | 0 recs
The initial TARP funds... case anyone forgot, are from US, as in the taxpayers.

Much of this money was held by the banks to build up reserves, and/or it's being invested in whatever the banks see fit to invest in.

This money, for the most part, never made it back into the marketplace to bring liquidity to it.

Now we're heading into Round II. SSDD. (Same Shit Different Day.) Although we're being told otherwise.

The problem here is that, unlike the Great Depression of the 1930's, we no longer control our own destiny. And, we no longer maintain a manufacturing infrastructure like we did in decades past. Our overseas sovereign creditors own all of that. (China, Japan, Singapore, Russia, and many of the Gulf states, among others.)

Unlike the 1930's, printing (money) our way out of this comes with potentially even more brutal consequences, such as hyperinflation (particularly with regard to necessities, while discretionary items continue to deflate in price/demand).

The say that knowing the problem is half the solution...

With industrial production off waaay more than 10% in the past year; with unemployment (based upon BLS' "U6" measurements, not BLS' "U3" nos.) closing in on 20%, perhaps by mid-year; and with consumer sentiment at an all-time low, you'd think we'd at least start calling this what it is: another Depression.

We have quite a ways to go before we hit's going to get a LOT worse.

Let's at least recognize this for what it is.

Yes, it's time to let a few banks (Citi comes to mind) collapse. Good riddance.

Any remaining money our government has must be earmarked for directly injecting liquidity into the marketplace, direct social spending and keeping people in their homes.

And, let's not forget to put a few hundred million aside to go after these mortgage brokerages and bankers (and investment bankers) that aided and abetted fraudulently securitized investment vehicles, too. And...oh yes...let's nail the ratings firms for negligence or fraud while we're at it, as well.

The banks understand monetary damages. I'm sure Attorney General Holder has plenty of meat on the table to mount scores of successful civil actions against these assholes while simultaneously recouping some of our money in the process, too!

Stating the obvious: The folks in the financial services industry are NOT the taxpayers' friends!

by bobswern 2009-01-20 07:49PM | 0 recs
Re: The initial TARP funds...

You say letting banks collapse as if it has no impact on anything but the bank collapsing. This was Bush's theory regarding Lehman Brothers. Where did that get us?

by bruh3 2009-01-20 08:15PM | 0 recs
Re: The initial TARP funds...

Yeah, it's a big problem... if there is no one to lend money, then it will be like the middle ages when the Catholic Church refused to let their members loan money.  Another term for that time was the dark ages...  not exactly something to strive for...

by LordMike 2009-01-20 09:48PM | 0 recs
Re: The initial TARP funds...

Bankruptcy doesn't mean that the banks shut their doors. This isn't 1930. Deposits are insured and banks keep running under Federal control until a buyer is found. One way or the other, the federal government is going to have to cover the deposits. They can either take over the banks, wipe out the stocks and a good part of the bonds and have new management take over, or they can shovel money into the banks trying to cover the investors and management bonuses as well. The second course is TARP. TARP is not only more expensive, it leaves the reckless management in place to dream up other schemes to make a killing instead of taking deposits and making loans.

by antiHyde 2009-01-21 04:45AM | 0 recs
Re: The initial TARP funds...

Lehman shut their doors... and who's going to do business with a bankrupt bank... I'd pull my deposits in a second!  I don't care if they are "insured".. I'm not going to trust that one bit!

I'm not pushing for TARP.. I think we need to think outside the box and go for some really radical banking reform and maybe bring back the national bank.

by LordMike 2009-01-22 06:54PM | 0 recs
Start negotiating like a trillion dollar investor

The government can not let Citi or any other major money center bank collapse. We are teetering on the edge of another 1929 and they have to hold the financial sector together at any cost.

The problem is just giving away trillions with no strings attached to the same snakes who got us into this position will not stabilize the financial system. The government is going to have to do what any private investor would do if he was putting up trillions to save a failing business: demand control, management changes, cut out all executive bonuses, lower executive compensation, stop dividend payouts and put the himself (the taxpayer-investors) first in line.

Bush has pissed away trillions showering Wall Street with free money. Obama is going to have to attach punitive conditions on every dollar that goes out to failing institutions from day one.

by hankg 2009-01-21 03:59AM | 0 recs
Re: Citi

I just refinanced with Citi. They are thoroughly incompetent. They should be broken up like Standard Oil was broken up.

by antiHyde 2009-01-21 04:48AM | 0 recs
Re: Citi

Any investor who was injecting the kind of capital into these enterprises that Uncle Sam is would have the power to do just that. But he would negotiate that kind of control BEFORE he parted with a dime.

by hankg 2009-01-21 05:32AM | 0 recs
Re: The Financial Sector Becomes a Call Option

Since the taxpayers are funding the "recovery" plans, why not just cut out the bank middlemen (especially their CEO's who aren't nearly as smart as they think they are) and have the US government put money directly into circulation?  Why not just beef up the SBA's budget and have businesses start getting loans through them?  

by beerwulf 2009-01-21 04:08AM | 0 recs
The Financial Sector Becomes a Call Option

It occurred to me reading this that this might be a case of benign neglect.  We (the progressivesphere) kept on worrying about moral hazard as in if the people who caused this especially bank management have no accountability for what they do, then they will just do it again.  The usual recourse was what happened to AIG, new management (partial) and wipe out the stockholders.  Note that the spa fiasco would not have been news in "normal" times.

Behold, the wonders of the market are wiping out the stockholders.  And do we really think given the current climate that the management is not going to be impacted ?  "Hi. I took a 100 Billion dollar capitalization and ran it over a cliff."

Because of the instinctive secrecy of the Bush administration and because of the devastating effect on stock prices for any given bank, the actual facts, which were probably known six months ago, that the banks were insolvent has taken a while to come out.

Bush could, like global warming ignore it but Lincoln's adage (updated) really holds in the market; you can fool all of the people for only a few quarters while etc.

What this means is that the banking system has collapsed of its own greed and Obama has $350 billion dollars to rebuilt it in his own image. So what will a community organizer do in that situation ?  

He by his "one president" policy or the timing of the transition, finished the conservative system with a reductio ad absurdum.   That is, allow conservative principles to work and you end up with a bankrupt financial system.

by msobel 2009-01-21 04:50AM | 0 recs


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