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April 26, 2010 – Bank Failure Friday Hits Illinois

Many say that failures of small community banks don’t matter. I say they do! I see flaws in bank
earnings. Certain Derivatives should be banned. The National Inflation Association reports that
food prices are rising at the highest rate in 26 years, yet economists and the Fed say there are
no inflationary pressures.
Bank Failure Friday – Seven banks in the State of Illinois were closed by the FDIC on Friday, and one
was publicly-traded and on the ValuEngine List of Problem Banks. Sure community and regional banks
have provided great trading opportunities since March 2009, and I showed the positive performance of
the HGX, ABAQ and BKX in Friday’s report. Just be careful, as MOJO markets do end badly. If you
speculate in a low priced bank stock you could lose all on that investment. Amcore Bank (AMFI) was
on the ValuEngine List of Problem Banks, it failed on Friday and investors get zilch. To obtain this
list go to ValuEngine.com and subscribe to the Quarterly FDIC Report.
• Only 25 banks failed in 2008, as the FDIC was slow closing community and regional banks.
• There were 140 bank failures in 2009 with a peak of 50 in the third quarter.
• In the first quarter of 2010 there were 41 failures, and so for in Q2 the total is 16.
All seven of Friday’s bank failures were overexposed to C&D and / or CRE loans with exposures
between 130.2% and 1948.7% for C&D loans and 396.6% and 4705.5% for CRE loans. How the US
Treasury, Federal Reserve and FDIC allowed these banks to have loan concentrations above the
ignored regulatory guidelines of 100% and 300% is beyond comprehension. The failed seven had
commitment pipelines between 88.5% funded to 99.6% funded, when a healthy pipeline is 60%.
FDIC Chair Sheila Bair says that failures in 2010 will peak above the 140 in 2009. Then she is
optimistic that the worse is behind us. This is the same woman who said that the banking system was
healthy two years ago.
My predictions remain that 150 to 200 banks will fail in 2010 on the way to 500 to 800 banks by the
end of 2012 into 2013. Since the end of 2007 there have been 222 bank failures. Community bank
failures are a big deal, as small businesses on Main Street look to them for their financial needs. When
a small business seeks a new banker they typically face tougher lending standards.
The Deposit Insurance Fund (DIF) was tapped for $6.5 billion in the first quarter of 2010 and another
$2.1 billion so far in Q2. This brings the estimated DIF deficit to $29.5 billion excluding the prepaid $46
billion that sits on the sideline for 2010 through 2012. Another prediction still stands is that the FDIC will
tap its $500 billion temporary line of credit with the US Treasury this year. After applying the $15,333
billion prepaid assessments for 2010 the DIF is in arrears by $19.7 billion.
Flaws in bank earnings – Earnings for the “too big to fail” banks were mostly proprietary trading,
which Dodd’s Financial Reform bill could eliminate. Financial reform may require that the big banks,
those with $50 billion or more in assets to be taxed to create a $50 to $90 billion “Wall Street Greed”
fund. Low interest rates and a steep yield curve have allowed those banks who can lend to borrow
short and lend long. This helped in the late 1980’s, but this house of cards collapsed when the yield
curve inverted. Keep in mind that many toxic assets lie off balance sheet, and FASB rules require that
they return to the balance sheet. Note that when the FDIC sells toxic assets it keeps after bank failures
they typically get about 22 cents on the dollar. Fed Chief Bernanke still has not told us what that $29
billion in toxic assets taken in to facilitate the JP Morgan take-over of Bear Stearns are worth. Finally
there is the issue of over-the-counter derivatives.
Certain Derivatives should be banned. On Friday I mentioned that Warren Buffet called Credit
Default Swaps and Collateralized Debt Obligations as financial weapons of mass destruction, and the
SEC fraud allegations against Goldman Sachs has this issue on the front burner. I say that the housing
market and banking system remain on tsunami watch. The effects are not being felt as housing and
financials are floating on an ocean of bail-out support programs, but eventually the tsunami reaches a
shore line and the devastation can be severe. Today we are watching the shores of Greece for an
example.
The quick turnaround for the big banks and even for General Motors illustrates that the economy and
banking system may not have been as bad off as we thought in 2007 to 2008. The bets against these
companies were exaggerated by extensive shorting of bank stocks, some naked. Then the bets were
doubled down via the Credit Default Derivatives market. If these contracts and naked shorts were not
allowed, financial firms may not have cascaded to the degree, of as fast, which would have given our
lazy regulators a chance for preventive action. Take GM, they go from bankruptcy to paying back a loan
five years ahead of schedule.
With proper margin requirements and an up-tick rule for shorting the banking system would have faired
much better in 2008. Notice how our regulators just forget problems when things improve, but when a
problem arises, they panic. Take that $147 per barrel crude oil price two years ago. It was caused by
speculators and pension funds investing. Guidelines were considered but crude oil dropped, problem
resolved without preventive action. The same can be said for the housing bubble. Flipping prevented
real homeowners from buying the home of their dreams at a reasonable price. Our country needs to
go back to basic banking. I will continue on what should be done in future blogs.
The National Inflation Association says that US food Inflation is spiraling out of control.
When the Bureau of Labor Statistics (BLS) today released their Producer Price Index (PPI) for March, it
showed that food prices rose by 2.4%, the 6th sixth consecutive monthly gain and the largest jump in
over 26 years. The NIA sees this as a major breakout in food inflation.
Year-over-year fresh and dry vegetables are up 56.1%, fresh fruits and melons are up 28.8%, eggs are
up 33.6%, pork up 19.1%, beef and veal up 10.7% and dairy products up 9.7%. NIA believes price
inflation is just beginning to accelerate in many areas, and say that all increases in U.S. retail sales this
year will be entirely due to inflation.
That’s today’s Four in Four. Have a great day.
Richard Suttmeier
Chief Market Strategist
www.ValuEngine.com
(800) 381-5576
As Chief Market Strategist at ValuEngine Inc, my research is published regularly on the website www.ValuEngine.com. I
have daily, weekly, monthly, and quarterly newsletters available that track a variety of equity and other data parameters as
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