Thursday, February 17, 2011

Future Bank Earnings

The chart below is very interesting and supports the recent commentary by Chris Whalen that banks are sitting on far bigger losses than they are reporting.

The volume of foreclosure sales has stayed relatively flat yet the serious delinquent category has grown much faster.  Foreclosure inventory has not kept up with the growth in delinquency either.

I've heard reports of people not paying a mortgage for months, in some cases over a year.  That would be a delinquent credit, yet the banks in those instances are ignoring this non-performing credit.  Unless notice is given, the credit is performing and not delinquent.   Why do that? Why would a bank let someone not make a mortgage payment for months? Why does the foreclosure process take up to 19 months for the top banks?

It's all part of extend and pretend.  When a credit is delinquent, the bank is still accruing interest on that note even though the probability of collecting that accrued interest is very low. Additionally the asset is marked at full value.  When a bank finally seizes a property it becomes an REO (Real Estate Owned) and that is when the hit to the balance sheet for the value of the asset and the income statement for the accrued interest happens.

What we have seen the past few reporting seasons is banks reducing their reserves for credit losses when in fact there is a mismatch between their realized losses and future losses.   They claim improving credit quality and perhaps that is true but they still are under reserved.  Should housing take another leg down, strategic defaults will occur and this problem will grow.  For now banks are balancing their dwindling profit with balance sheet write downs.  This, is why the US economy is being held hostage by the TBTF banks.  The last thing they want to do is extend credit to anyone without a perfect credit score and very low LTV .


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