Nouriel Roubini throws a little cold water on the premature celebration of the big banks "passing" the stress test

roubini points out a fact that's also occurred to me, namely, that of COURSE some of these godzilla banks are passing the stress test after the u.s. has thrown gazillions of dollars at them... shit... i'd be looking pretty good too if somebody showered me with money and then made a judgment call about the strength of my bank account...

According to preliminary results leaked to the New York Times, all 19 banks with assets above $100 billion that are subject to the Treasury’s ‘stress test’ are bound to pass the test. The official results are due by the end of April but the upbeat mood in the banking sector was already reflected in the 30% stock price rally in the run up to the Q1 earnings season. The major three commercial banks had already noted that they were profitable in the first two months of the year, and Wells Fargo announced that it expects to post a record net income of $3 billion when it reports results on April 22 (with combined net charge-offs of $3.3 billion for both Wells and Wachovia from $6.1 billion in the fourth quarter). Meanwhile, Goldman Sachs reported larger than expected Q1 earnings (ex December loss due to earnings calendar move) while at the same time raising fresh capital through a $5 billion stock sale in order to pay back the $10 billion in TARP money received last year.

A look below the surface reveals some caveats to this positive picture. As Nouriel Roubini points out in a recent writing: “In brief, banks are benefitting from close to zero borrowing costs and fewer competitors; they are benefitting from a massive transfer of wealth from savers to borrowers given a dozen different government bailout and subsidy programs for the financial system; they are not properly provisioning/reserving for massive future loan losses; they are not properly marking down current losses from loans in delinquency; they are using the recent mark-to-market accounting changes by FASB to inflate the value of many assets; they are using a number of accounting tricks to minimize reported losses and maximize reported earnings; the Treasury is using a stress scenario for the stress tests that is not a true stress scenario as actual data are already running worse than the worst case scenario.”

Other commentators also point to the fact that many of these banks were among the main recipients of AIG bailout funds in previous months, e.g. Goldman Sachs ($12.9 billion), Merrill Lynch ($6.8 billion), Bank of America ($5.2 billion), Citigroup ($2.3 billion) and Wachovia ($1.5 billion), according to New York Times data. The firms involved dismiss this factor as immaterial for Q1 earnings. Nevertheless, the GAO noted in a report at the end of March that Treasury should require that AIG seek additional concessions from employees and existing derivatives counterparties.

i refer interested readers to the post from hernando de soto about toxic derivatives i put up just the other day...

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Between $596 trillion and $1.2 QUADRILLION worth of derivatives outstanding...! Talk about a TIME BOMB...!

this la times opinion piece carries a headline that says it all...

Global Meltdown Rule No. 1: Do the math
We can't start fixing things until we can get a handle on the toxic assets behind the financial crisis.

Economist Hernando de Soto is the author of the "The Other Path" and "The Mystery of Capital." He has helped carry out property-reform programs for heads of state in about 20 countries.

[I]magine how I have felt watching my role models go to war over weapons of mass destruction that they never actually assessed, or now, watching them wage a losing war against derivatives -- which both Warren Buffet and George Soros have called "financial weapons of mass destruction" -- without locating or counting them either.

And, man, do those financial instruments need measuring: pooled, packaged and traded around the world, they are now the principal reason for today's massive credit contraction. The fear among financial institutions that potential borrowers and users of credit and capital could be burdened with so many nonperforming derivatives that they would be unable to repay their loans and protect their investments has plunged the global economy into a recession.

The Securities and Exchange Commission estimates that derivative paper is worth $596 trillion (10 times the value of total world production), while studies at the Bank for International Settlements in Basel, Switzerland, conclude that it could be twice as much -- $1.2 quadrillion. And exactly how many of those derivatives are actually nonperforming and would have to be surgically removed to stop their toxicity from spreading and destroying trust among creditors and investors? Nobody knows that for sure either. U.S. Treasury Secretary Timothy F. Geithner has set aside $1 trillion to assist in buying those toxic assets, but the SEC has guesstimated that there might be upward of $3 trillion worth.

[...]

If you want to get credit flowing again, you must restore trust in paper as soon as possible. And that means measuring the assets, recording them, finding and purging those that are toxic and preventing future debasement of the paper -- in essence, submitting it to property law just like all the other assets that we own and value.

Before we can get out of this recession, we need to concede that we just don't have the right information. At present, the world of derivatives is devoid of useful facts and a structure from which we can extract the meaning, knowledge and confidence required to end the credit crunch.

i have neither the background or the intelligence to comment intelligently on the arcane world of financial instruments, but i know solid wisdom when i read it...

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