February 13, 2016


Battered Bank Stocks Reflect Not Just Jitters, but Mistrust (GRETCHEN MORGENSON FEB. 12, 2016, NY Times)

[W]hy have bank shares continued to fall? Mr. Peabody contended that excess selling pressure was a result of investors being forced to unwind big bets made in these stocks last year when it was widely believed that interest rates would rise and fuel bank profits.

"You had huge money flows into dedicated bank stock funds -- they doubled in size from $1 billion to $2 billion last year," Mr. Peabody said. "What you're having now is a mechanical margin call by these funds, creating selling that has nothing to do with the fundamentals."

Another veteran bank analyst who said he is puzzled by the sharp sell-off in these companies' shares is Richard X. Bove at Rafferty Capital Markets. In an interview, he acknowledged that there is a fear in the markets that some unknown problem will emerge, shaking the assets of the industry and wiping out the equity that banks have built up in recent years.

"Any number of statistics would validate the fact that banks today don't have the risks they had either in 1990 or 2008," Mr. Bove said, recalling two of the worst periods for banks in recent history. "The stocks are selling at such deep discounts to book value that they are telling you the book values are not valid."

This view, which Mr. Bove does not agree with, reflects investors' severe mistrust of both the banks and their regulators, he said. After instituting hundreds of new rules to strengthen the banking system and protect against disastrous losses, regulators have still not convinced investors that these institutions are sound.

"Nobody believes that the industry has changed," Mr. Bove said. "Nobody believes that what the government has done has been effective."

Bank investors have good reason to be doubters. In the years leading to the financial crisis, regulators repeatedly stated that subprime mortgage losses would not be large enough to harm the overall economy. (Remember all the references to the subprime problem being "contained?") Then, in the aftermath of the mess, investors learned the hard way about losses at these institutions that far exceeded their reserves.

The current psychology "is you can't believe anything the government says because the government is not prone to telling the truth," Mr. Bove said. "And you can't believe anything the banks say because we know they've lied to us repeatedly."

This view represents a "massive failure of government regulation," Mr. Bove recently told his clients. Investors don't believe central bankers are effective and they fret that bank balance sheets are "black boxes."

After a recent in-depth analysis of balance sheets, Mr. Bove concluded that banks are far safer than investors seem to think.

It's perfectly understandable that folks worry about the honesty of the institutions that hid risky loans in supposedly safe derivatives. But the worry over negative interest rates just reflects the failure of our society to process the reality of deflation. Real interest rates remain usurious.

Deflation also explains why corporations and consumers are comfortable sitting on cash and why central banks are looking to negative rates.

Posted by at February 13, 2016 8:56 AM