Wednesday, August 31, 2011

Banking Sector

It is just a bad time to be in the banking business.  If you are a commercial bank with voting interest in the Federal Reserve then you might take exception to this statement.  For new readers, the fed is not a public institution.  Before labeling us conspiracy theorists please spend at least 5 minutes researching the topic.

The banking business is simple.  $100 in tier I capital creates $1,000 in loans.  If you are a large commercial bank with stock in the fed you can lever up to nearly 30 times your initial capital.  The problem with this business is that the $1,000 in loans can at times incur losses.  In the case of many regional banks the actual value of loans would be closer to $700 on the initial $1,000 in origination.  Remember, $100 in capital created that loan book so you have effectively wiped out your equity and created a $200 loss for the bond holders.

There were roughly 8,000 banks or thrifts in the US before this recent crisis.  We have frequently suggested that 6,500 will survive and so far that looks to be a good target.  7,988 of those initial 8,000 institutions have no financial influence or ownership in the fed but are subject to the effects of its policy.  Amazingly, the remaining banks have no understanding that they work in an industry controlled by a cartel and they are not in it.  The compliance costs associated with a free checking account have risen to nearly $400.  This is just one of fee increases the FDIC has implemented in an effort to pay for the cost of failed banks.  The failed institutions that are valuable get taken over by connected bankers with influence.  They take the assets and deposits but push the losses to the FDIC.  The FDIC pushes the costs of those loses to the rest of the remaining banks through fees.  The treasury also absorbs some costs and most Americans have long forgotten that they are the treasury.

What we are literally shouting at investors is that these stocks are not cheap.  If an industry is experiencing growth of 20% during a period of expansion you want to own equity as profits are rising and value is increasing.  In this case, the industry is contracting by an estimated 20% and the burdens of doing business are increasing exponentially.  Combine that with a balance sheet that looks like a toxic waste dump and we are asking again, "Why would you want to own the equity of a company in this condition?"

Many novice investors think that a $5 stock is cheap.  It is a good time to mention that sometimes a $150 stock is cheap and a $5 stock is expensive.  If you are buying a $5 stock in a bank that has a market capitalization of $5bil and is carrying losses of 3 times their capital you are drastically overpaying for equity in this concern.  Let's have a look at several expensive stocks.
This bank is basically a giant asset gatherer.  They are not a primary dealer and at some point we speculate they will be absorbed by JP Morgan or a large money center bank.  Warren Buffett's infusion of capital likely represents a gesture of goodwill in return for something.  Again, resist the urge to call us conspiracy theorists as we have seen behind the curtain and know how government behaves.  Don't be surprised if there is some federal move that benefits Wells Fargo which is Buffett's main bank holding.

Notice on the chart (Courtesy of that there is a major downtrend in place and this current rise is not likely to break out of that.  It should test the downtrend and continue floundering.  $4.00 represents firm support for the stock and only a failure of the business should break this.  We expect more sideways momentum as it is forming a perfect bearish pennant.  BAC should represent high Blood Alcohol Content as that is what you need to think this is a good buy.
Here is another awful looking chart.  Bearish pennant again in place.  $3.30 is the possible low and at this time  $5.80 would need to be breached to even consider a purchase.  There is just no way this will happen without a drastic change in circumstances.  The elephant in the room is the balance sheet.  Since no one wants to discuss it why should we?  RF should stand for RUN FAST! and that is what we would do if we owned these shares.
At this point we are boring readers so there is not much to explain here.  This issue needs to breach $23.50 as of now with confidence to warrant consideration.  These downtrends always stay in place until something changes.  Do you see anything changing?  We do not either and investors should give up trying to argue with the market.

As for charting it is an art not a science.  This commentary is not intended to encourage any investment activity.  We are only trying to illustrate that if you apply the same chart analysis to a gold mining stock the exact opposite becomes apparent.  Investing with the trend is a much easier and more pleasant way to make money in markets.  It also makes you much more fun to be around! 

1 comment:

Billy Ray Valentine said...

Great post! Insightful remarks about cheap vs. expensive. Value is relative - people and investors forget that. I also like the ticker symbol deciphering.