Northern Rock Asset Management the "Bad Bank" has posted better results than Northern Rock Plc the "Good Bank". How interesting...
Net profit of GBP 359 millions versus net loss of GBP 142.6 millions.
The good bank has increased its mortgage lending by 50 % to 2 billions GBP up until June, yet it still producing a loss.
This is partly due to the withdrawal of GBP 2 billions GBP of savings due to the end of the guarantee of 100 percent of deposits by the government.
Still GBP 22.5 Billions to be repaid to the UK taxpayer though...
Northern Rock has GBP 47.2billion of residential mortgages still sitting on its books.
Yet David Jones, its former CFO was only fined by the FSA 320,000 GBP and barred from working in finance. This is ridiculous given the CFO had clearly misled investors on the level of bad loans leading to the spectacular collapse of the bank.
In November 2007, Alistair Darling declared the following in the Commons: he insisted that the Government “fully expected” to get back the GBP 24 billion that the Bank of England had lent to the troubled bank because the money was secured against its assets.
On the 17th of February this was the statement made by Alistair Darling in respect of the nationalisation of Northern Rock:
http://news.bbc.co.uk/1/hi/uk/7249720.stm
"The Financial Services Authority continue to assure me the bank is solvent. It believes that Northern Rock's mortgage book is of good quality. And the FSA will also continue to regulate the Northern Rock."
And on the 6th of August 2008 the Government injected an additional GBP 3 billion into Northern Rock because at that time the bank indicated repossessions had soared 180 per cent and losses had jumped to GBP 585million in the first six months of 2008 only.
So much for the FSA good understanding of Northern Rock's quality of its mortgage book...
Under the existing business plan for Northern Rock, the bank must repay all the money its owns by the end of 2010.
Northern Rock used to have a "fantastic" mortgage product called Together mortgage which let some borrowers borrow up to 125 per cent of a property's value! Nice one...
In August 2008, the arrears on this product was 2.14 percent, double the industry average and was rising super fast at the time.
One year later Northern Rock was borrowing GBP 11 millions a day from taxpayers.
"Its outstanding net debt to the Bank of England reached GBP 10.9billion in the first half of the year, up from GBP 8.9billion at the end of 2008."
Read more: http://www.dailymail.co.uk/news/article-1204149/Government-owned-Northern-Rocks-700m-loss-mortgage-holders-struggle-pay-loans.html#ixzz0vkEJOoFg
"Some 39 per cent of its 560,000 customers are in negative equity, the figures showed - an extraordinary 218,000 people."
A year later arrears on the fantastic Together Mortgage had soared:
"Arrears on these loans spiked to 6.5 per cent of Northern Rock's loan book, up from 2.14 per cent in the first half of 2008. The industry average stands at just 2.39 per cent."
Up to 6 months after Northern Rock had been bailed out, it was still providing Together Mortgages at the tune of GBP 800 Millions from September 2007 to February 2008.
The reason why the good bank is losing money is that we are still in a deleveraging process, which means that people, are borrowing less and saving more, which makes it difficult for Northern Rock Plc to make a profit.
The government would like banks to increase lending, which is very difficult in this deleveraging environment. While small business are struggling to get access to loans, Banks have gone back to tightening their credit standards which mean their are much more cautious in relation to the lending their are willing to make, while they are also still busy repairing their balances sheets.
Given banks are a leverage play on the economy, it is an encouraging sign that profits are on the increase (but not sufficient). Yet there are still many issues in relation to the solidity of the recovery, due to the urgent need of structural reforms in government spending and the high level of unemployment.
There is a risk of a double dip, not only because of the seriousness of the damages caused by the crisis but as well due to the increasing risks from a geopolitical point view.
To name a few, the increasing tensions between Venezuela and Colombia, as well as Iran still busy building up its nuclear program.
Also the risk of an increase in interest rates, could as well dent seriously the fragile recovery taking place. The Bank of England for instance is facing increase inflationary pressure due to the failing of QE. Commodities are also rising fast given drought and other issues. For instance price of wheat are increasing very fast, which will have an impact in the level of consumer prices: today Wheat futures rose 7.9 percent to USD 8.155 a bushel in Chicago, the highest price since August 2008...
The Bank of England will try to delay the inevitable as long as possible but it will have to raise rates in the short term.
Showing posts with label FSA. Show all posts
Showing posts with label FSA. Show all posts
Thursday, 5 August 2010
Monday, 12 July 2010
Statement 159 - Debt Valuation Adjustments - Déjà Vu 2008.
Statement 159, adopted by the Financial Accounting Standards Board in 2007 allows banks to book profits when the value of their bonds falls from par. This rule expanded the daily marking of banks’ trading assets to their liabilities, under the theory that a profit would be realized if the debt were bought back at a discount. How convenient...
I commented previously about the first quarter being the perfect game, the second quarter will be seriously different for Banks profits this time around.
A fast and furious tightening of credit spreads allowed Banks to publish record profits for 2009.
With the recent increase in volatility in conjunction with a reduction in debt issuance in the second quarter, banks have had a hard times to reap in similar profits they made in Q1.
As per below's Bloomberg article, Banks are now using the same accounting trick they used previously to boost their profits in a difficult trading environment.
http://noir.bloomberg.com/apps/news?pid=newsarchive&sid=a3Eg4vzAbneA
“What’s on investors’ minds are the macroeconomic issues, as reflected by the interbank market in Europe, the very low yields on U.S. Treasuries and recent data on economic growth, jobs and housing,” Credit Agricole Securities USA analyst Michael Mayo said in an interview. “To the extent that the earnings power is less, the banks would not generate as much capital, so there’s less capital available to absorb future losses.”
The capital buffer is shrinking...and the DVA (Debt Valuation Adjustments) are returning with a vengeance.
DVA Gains:
"Including Bank of America, the four banks probably had debt-valuation adjustments, or DVAs, amounting to an average of 18 percent of pretax income, based on Citigroup Analyst Keith Horowitz’s estimates."
Accounting ‘Abomination’
"In practice, it’s an accounting “abomination” because fluctuations in the value of the debt don’t change the amount the banks owe, said Chris Kotowski, an analyst at Oppenheimer & Co. in New York."
David Hendler, Senior Analyst from CreditSights Inc. sums it up nicely in the Bloomberg article quoted above:
“When the prevailing winds of credit spreads tighten, they make a lot of money, and when spreads widen, they can’t make as much,”
Hence the recourse to DVA accounting practices.
When the game is not going your way, just change the rules...
Another nice move from FASB in 2007.
FAS 157 was reviewed in 2009 to allow more flexibility and issued in September 2006.
http://en.wikipedia.org/wiki/Mark-to-market_accounting
"On March 9, 2009, In remarks made in the Council on Foreign Relations in Washington, Federal Reserve Chairman Ben Bernanke said, "We should review regulatory policies and accounting rules to ensure that they do not induce excessive (swings in the financial system and economy)". Although he doesn't support the full suspension of basic proposition of Mark to Market principles, he is open to improving it and provide "guidance" on reasonable ways to value assets to reduce their pro- cyclical effects.
On March 16, 2009, FASB proposed allowing companies to use more leeway in valuing their assets under "mark-to-market" accounting, a move that could ease balance-sheet pressures many companies say they are feeling during the economic crisis. On April 2, 2009, after a 15-day public comment period, FASB eased the mark-to-market rules. Financial institutions are still required by the rules to mark transactions to market prices but more so in a steady market and less so when the market is inactive. To proponents of the rules, this removes the unnecessary "positive feedback loop" that can result in a deeply weakened economy.
On April 9, 2009, FASB issued the official update to FAS 157 that eases the mark-to-market rules when the market is unsteady or inactive. Early adopters were allowed to apply the ruling as of March 15, 2009, and the rest as of June 15, 2009. It was anticipated that these changes could significantly boost banks' statements of earnings and allow them to defer reporting losses. The changes, however, affected accounting standards applicable to a broad range of derivatives, not just banks holding mortgage-backed securities.
In January 2010, Adair Turner, Chairman of the UK's Financial Services Authority, said that marking to market had been a cause of inflated bankers' bonuses. This is because it produces a self-reinforcing cycle during a rising market that feeds into banks' profit estimates."
Basically, FAS 157 enabled banks to boost earnings in good times and pay themselves record bonuses and suffer catastrophic losses during the credit crisis, generating excessive margin calls on derivatives trades.
At the same time FAS 159 for DVA, enables banks to increase earnings in bad times.
The issue was anyway excessive leverage in conjunction with inappropriate accounting principle FAS 157, which led to seismic losses in US banks. Whereas in Canada bank leverage was capped to around 20 times. The capital buffer was therefore more significant. RBC still boast a AAA Rating.
The shadow inventory of REOs (Real Estate Owned, following rises in foreclosures) is putting additional strains on banks earnings. Inevitable adjustments to interest rates would as well put additional pressure on Banks Balance sheets. The current steep yield environment is helping tremendously banks in shoring up capital, provided their play is short duration (2 to 4 years). The risk is higher for Banks if they start buying longer duration trades on MBS (Mortgage Backed Securities). MBS are more abundant than US treasuries or short term liquid investments and are also offering higher yields as well. The temptation is there...and the risks are real if there is a sudden rise in interest rates.
I commented previously about the first quarter being the perfect game, the second quarter will be seriously different for Banks profits this time around.
A fast and furious tightening of credit spreads allowed Banks to publish record profits for 2009.
With the recent increase in volatility in conjunction with a reduction in debt issuance in the second quarter, banks have had a hard times to reap in similar profits they made in Q1.
As per below's Bloomberg article, Banks are now using the same accounting trick they used previously to boost their profits in a difficult trading environment.
http://noir.bloomberg.com/apps/news?pid=newsarchive&sid=a3Eg4vzAbneA
“What’s on investors’ minds are the macroeconomic issues, as reflected by the interbank market in Europe, the very low yields on U.S. Treasuries and recent data on economic growth, jobs and housing,” Credit Agricole Securities USA analyst Michael Mayo said in an interview. “To the extent that the earnings power is less, the banks would not generate as much capital, so there’s less capital available to absorb future losses.”
The capital buffer is shrinking...and the DVA (Debt Valuation Adjustments) are returning with a vengeance.
DVA Gains:
"Including Bank of America, the four banks probably had debt-valuation adjustments, or DVAs, amounting to an average of 18 percent of pretax income, based on Citigroup Analyst Keith Horowitz’s estimates."
Accounting ‘Abomination’
"In practice, it’s an accounting “abomination” because fluctuations in the value of the debt don’t change the amount the banks owe, said Chris Kotowski, an analyst at Oppenheimer & Co. in New York."
David Hendler, Senior Analyst from CreditSights Inc. sums it up nicely in the Bloomberg article quoted above:
“When the prevailing winds of credit spreads tighten, they make a lot of money, and when spreads widen, they can’t make as much,”
Hence the recourse to DVA accounting practices.
When the game is not going your way, just change the rules...
Another nice move from FASB in 2007.
FAS 157 was reviewed in 2009 to allow more flexibility and issued in September 2006.
http://en.wikipedia.org/wiki/Mark-to-market_accounting
"On March 9, 2009, In remarks made in the Council on Foreign Relations in Washington, Federal Reserve Chairman Ben Bernanke said, "We should review regulatory policies and accounting rules to ensure that they do not induce excessive (swings in the financial system and economy)". Although he doesn't support the full suspension of basic proposition of Mark to Market principles, he is open to improving it and provide "guidance" on reasonable ways to value assets to reduce their pro- cyclical effects.
On March 16, 2009, FASB proposed allowing companies to use more leeway in valuing their assets under "mark-to-market" accounting, a move that could ease balance-sheet pressures many companies say they are feeling during the economic crisis. On April 2, 2009, after a 15-day public comment period, FASB eased the mark-to-market rules. Financial institutions are still required by the rules to mark transactions to market prices but more so in a steady market and less so when the market is inactive. To proponents of the rules, this removes the unnecessary "positive feedback loop" that can result in a deeply weakened economy.
On April 9, 2009, FASB issued the official update to FAS 157 that eases the mark-to-market rules when the market is unsteady or inactive. Early adopters were allowed to apply the ruling as of March 15, 2009, and the rest as of June 15, 2009. It was anticipated that these changes could significantly boost banks' statements of earnings and allow them to defer reporting losses. The changes, however, affected accounting standards applicable to a broad range of derivatives, not just banks holding mortgage-backed securities.
In January 2010, Adair Turner, Chairman of the UK's Financial Services Authority, said that marking to market had been a cause of inflated bankers' bonuses. This is because it produces a self-reinforcing cycle during a rising market that feeds into banks' profit estimates."
Basically, FAS 157 enabled banks to boost earnings in good times and pay themselves record bonuses and suffer catastrophic losses during the credit crisis, generating excessive margin calls on derivatives trades.
At the same time FAS 159 for DVA, enables banks to increase earnings in bad times.
The issue was anyway excessive leverage in conjunction with inappropriate accounting principle FAS 157, which led to seismic losses in US banks. Whereas in Canada bank leverage was capped to around 20 times. The capital buffer was therefore more significant. RBC still boast a AAA Rating.
The shadow inventory of REOs (Real Estate Owned, following rises in foreclosures) is putting additional strains on banks earnings. Inevitable adjustments to interest rates would as well put additional pressure on Banks Balance sheets. The current steep yield environment is helping tremendously banks in shoring up capital, provided their play is short duration (2 to 4 years). The risk is higher for Banks if they start buying longer duration trades on MBS (Mortgage Backed Securities). MBS are more abundant than US treasuries or short term liquid investments and are also offering higher yields as well. The temptation is there...and the risks are real if there is a sudden rise in interest rates.
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