Stess tests and the banking crisis – whose stress got tested?

Readers will remember about five or six years back I was singing the praises of bank stocks.

Well, it has obviously been quite a ride 2003 to 2009.

Every corner of the online world seems to have some commentary about how there is some big conspiracy going on with the banks.

It’s either:

the banks are weaker than the banks and government regulators say, and so the recent “Stress Test” was a big charade to build confidence;

OR

the banks are stronger than people in general believe (Bankstocks.com’s Tom Brown takes the view, and so all of this balance sheet fortifying has been nothing but forcing the current shareholders to share the recovery and profits with newcomers. So-called dilution.

Throughout the whole ride down, I’ve had a hard time believing that the American banking system was “insolvent”.

If anyone knows how a bank works, they take your dollar deposit and put about 10 cents in reserve. They are free to lend out the other 90 cents. This is where loan money comes from.

If 10% of the value of loans don’t pay back then, yes, the bank has trouble. But usually they are very good at figuring out how many of loans are questionable, and what the loss would be. Also, since they charge interest to everybody taking the loan, they are making money on the other loans that aren’t going under.

And for most loans, the bank is taking a security, some collateral. For the Ordinary Joe and Jane, this is usually the house. But it’s also people’s cars and businesses.

So the loan doesn’t pay, the security goes to the bank.

Credit cards are their own story—these are unsecured. But the bank can attach future wages and get their money back through other ways.

Sure the bankrupcy court screws up the bank’s final end game about collateral. But I have no doubt they factor this in to the loan.

If banks had to liquidate all their loans in an instant–sell the loans to other people who would buy them as speculative investments–then banks would always be “insolvent”. The whole idea of the business model is that they will take in deposits which are sticky (not bouncing around looking for a another 1/4%), and lend out at a higher rate. Built into the business model is that the deposits will be available and that the loans are for term.

Amy investment that looks like it’s being “liquidated” is immediately a little suspect and will sell for less than if the owner just kept it. Simply for the mystery around it, and the fact it’s “used”.

People try to hold on to a good car. Tt’s the lemon (or the well used car) that they put in the want ads. But there is always the side story about needing to sell for one reason or another. Sometimes it’s true, but it won’t raise the bid price higher.

So for months now we’ve had these Financial Chicken Littles going around making careers for themselves saying asinine things like the American banking system is unsound because if you liquidated the banks there would be nothing left.

And people who, since the election, have been out to undermine Obama are among the biggest trumpeters of this. Those, and the “shorts”, the people who place bets in the market that prices of stocks will go down. They had a field day since last November.

In my view, if the government is in there supporting the banking system in any way, it should be illegal to do things to undermine that support. Like taking short positions or spreading unfounded rumors. Illegal.

An economy needs a banking system and anyone looking to undermine it for profit should be looked at as suspect. What was the recent joke at that Washington function where the press and the President get together? Someone said Rush Limbaugh was the 20th hijacker? Well, it’s just like that. What is the difference between people who are talking down our economic system and the 911 hijackers?

The last administration was so big on this idea of the terrorists out there. After about six months, it became a little stale to me. And especially after the start of the Iraq War, which was a farce. Trillions were spent and many lives wasted for GOP foolishness.

But when America actually started to face serious problems, those among our citizenry who were encouraging the instability, or who were talking down the attempts to bring some stability to the system, weren’t looked at with the same suspicious eye as anyone who made comments about overseas threats circa 2003.

As a result, we ended up with these “stress tests”, which to me just looked like the regulators of the traditional banking system, and the bank businessmen themselves, were already on the case as part of business.

Whether you agree with the Cassandras or with Tom Brown, my own feeling is that Americans who are willing to put their money into the banks either as depositors, bond holders or shareholders are the heroes of the moment. People who get in the way of that enterprise should not be looked at as wise or foresightful, but as suspicious troublemakers.