Sunday, November 01, 2009

The Impending Banking Disaster

If we summarize the present banking problems (including Fannie and Freddie), it is pretty obvious that the Federal Reserve and Treasury have bought all of the bad housing. No depositor has lost a dime. The last 16 bank closings have had absurd balance sheets. Oddly enough U. S. Bank Corp took over the last nine closings. In my opinion, this isn’t really the time to expand your market share in the banking industry. The absorbed banks just might make U.S. Bank Corp too big to fail and I imagine any losses from the assumed loans are insured by the FDIC or put on the books at a marked to market value (some sort of "can't lose" deal).

If you simplify all of this, the FDIC is cashing out the failed housing loans written by the closed banks. Then they avoid further losses by folding the rest of the failed bank’s loans into the buyer bank.

In the normal market of the 60’s and 70’s, a home mortgage included a 20% down payment. So if there was a problem with the market, the bank was not out of pocket until the home values decreased 20%. With the 100% loan, the bank is the real owner of the property the minute the note is signed. With the drop in property values of 40%, the banks are left holding the bag. The words “Road Kill” come to mind.

The picture below displays the info on the last failed nine banks, assets to deposits should match in value. Some of the values are so out of whack, it questions whether or not you really need a book keeper to tell you that your broke!

Now we have a new FDIC ruling that commercial loans can be carried on the books at original price for bookkeeping purposes. They don’t have to be marked to market. I would call this “Creative Financing.” Common sense suggests that this is wrong, and I am just pointing it out.

If you thought housing loans were bad, commercial loans are toxic. If a 10 million dollar shopping mall goes into bankruptcy and is sold for 5 million, the buyer might only have to come up with a 5% down payment (250K--- insurance companies do this all the time). So to the person with an expiring lease can probably get a real rent reduction by switching malls. What happens next? Retailers vote with their feet. The irritating thing here is that more commercial property falls into bankruptcy. It’s not a fast process; it will take about 5 years (In our area, this was evident 2 years ago). So I guess we have a head start. I just don’t know if winning a bankruptcy race is the sort of race we really need to win.

So far there have been 116 banks that have failed this year, 10 times more could fail over the coming year. Transferring the assets from small banks to larger banks, doesn’t make the problem loans any more secure, it just passes the problems into the future.

It is very comforting to know that the FDIC has everything under control--We get to watch them paint themselves into a corner.


Tyrone said...

What happens if/when the FDIC has no resources to cover deposits of failed banks?

Is this a printing press solution?
Should assets be pulled from bank accounts when this happens?

Just some questions I'm thinking about.

Jim in San Marcos said...

Hi Tyrone

You pose some interesting questions and I have no answers.

In my opinion the FDIC has probably spent far more than it was authorized by a factor of 100.

The real question to ask, is how do you measure what the FDIC is spending? Their spending is a function of the number of banks going into receivership. The more banks they close, the more money they need.

I think what we are seeing is that more and more people are pulling money out of the banking system, and that is making it more difficult for the remaining banks to operate.

I would suggest that you take your cash and put it in a safety deposit box. there is no reason to give the banks money when they only offer 2% interest when inflation is at 12%.

AIM said...

FDIC is socialism from FDR. It creates moral hazard in banking. Get rid of it.


AIM said...

My guess is that The Fed will backstop and print for the FDIC and never let them go broke. FDIC will be totally out of money soon and will get a nice big infusion of fiat dollars to keep them going. The govmt will continue to do whatever is needed to prevent further deflation in assets... the value of dollar is not what they are concerned with.

AIM said...

The attitude being forced into existence on a wholesale basis by the powers that be is...

"Why should I work or produce anything? Being responsible and toeing the line hasn't gotten me anywhere. The producers work like dogs and get punished; the slackers have it easy and get taken care of one way or the other. They get free medical, low income housing, food stamps, etc. I give up I'm just gonna sit back and let the government take care of everything."

Jim in San Marcos said...


The original purpose of the FDIC was to keep depositors from starting a run on the bank and collapsing it. It was felt that there would never be much call for the insurance, because it would eliminate bank runs which resulted in a banks collapse. Stuffing the mattress withdrew money from the banking system. It couldn't be loaned out.

The FDIC insurance, has stopped the bank runs, but the creators of this plan in the 1930's, never imagined what a kick this mule could have.

Somebody has lost an awful lot of money. It doesn't seem to be anyone we know--its a real puzzle, who could it be???

Anonymous said...

I'm curious aobut the other countries that are in this mess. Are they also using mark to marx accounting? Or are they letting the free market work things out?

AIM said...

What do you think about this hypothetical model?

A free and clear house with a home office.
Two small home businesses that generate decent income.
Two small, free and clear apartment buildings, giving good passive income and tax advantages.
No business or personal debt.

With a setup like the one above I wouldn't think a person would have to be concerned about inflation or deflation. He wouldn't care if the value of his home or apartment went up or down (those are just nominal dollars anyway, plus the value of his home/apartment is relative and will be the same value as any other comparable home or apartment). He has got a shelter, business office, businesses that give him income, and assets that give him income all owned 100%. He is stable... a simple and worry free situation.

Wouldn't you agree?

Anonymous said...

For some reason that model reminds me of the twilight zone episode where the last man alive finally has all the time in the world to read his books, then he breaks his glasses.

Jim in San Marcos said...


Rioting looting and fires could put a crimp in your plan. all of your eggs are in one basket.

You need a granny flat for old age. Otherwise you are rest home fodder. How about hobbies, is the land close to where you want to golf, fish, sail etc? A lot of times "diversity" is doing what you and the wife both want to do.

I'm not trying to rain on your parade, but I still remember the government intervention when I was shorting bank stocks. Your plan could work out as you planned. Planning is the real key, good luck to you.

Jim in San Marcos said...

Hi Anon 1:03

I think that the rest of the world is using our currency as a backup reserve to theirs. The dollar is poor man's gold. In this case it could be a folly.

It could turn out real bad for a lot of countries that use the US currency for commerce.

Anonymous said...

There is the chance that when the next crisis comes... (which is probably not too far away and possibly bigger than the last) and it WILL come due to what the government is avoiding and doing... there will be a major flight back to the old USD, and it will rise back up in value.

I don't think all the threats and babble coming from all corners about the USD is anything to worry about. It takes a long long time for a reserve currency to lose its stature (took the English pound 68 years). It is a slow unwinding.

My guess is that the USD will head downwards on a serious scale when the effects of all this inflation finally hits us. That is what we have to be concerned with.

People with highly leveraged debt (personal and on assets) will be the winners as the cheap dollars + tax breaks make their debt balances small and worthless.

Jim in San Marcos said...

Hi Anon 8:13

It is really hard to call how the cards will fall.

Envision this, I saw it in Viet Nam in 1968, a currency reissue. You trade in your old currency for the new and the old becomes worthless. It could wipe out quite a few drug cartels and other illegal operations.

The American dollar is a joke right now, the trouble is the rest of the worlds currencies (except the Euro) are measured by the dollar. It tends to suggest that the whole world is one large towering house of cards.

Tyrone said...

More points against hyperinflation, but still a bad outcome.

Government Will Default on Its Debts

There are two forms: mass (up to 50% per annum) and hyper (the sky's the limit).

Mass inflation seems more likely over the next decade. If the world's central banks can coordinate the expansion of money, thereby funding the national welfare states, the public will not be able to escape. They will pay the inflation tax.

Anonymous said...

10:41:00 PM, your link quotes Peter G. Peterson from the CFR. The CFR was started by elites, for elites. No offense, but I am getting tired of reading new world order propaganda.
The US will do just fine. We just have to kick out the global elites and take control of our country again.

AIM said...

Here is a model that cancels out all threats and concerns about the future, making life so much easier.

I welcome anyone to play devil's advocate or shoot holes in this "model for the future". (After all, I want to learn and come up with the most optimal strategy.)

Granted, this model could only be done by someone who already has some assets and is cash rich. Personally, I am close to being in this position to have the potential to pull this off (just need to build up some more cash and also pay off some personal/business debt).

Sell your home and buy smaller one all cash (own it free and clear)... liquidate all conventional assets (stocks, bonds, etc.) and combines the proceeds with your savings... scrape together all other cash you can (sell stuff, etc.)... then buys some income properties (SFR, 4 plex, etc.) all cash (own them free and clear).

Now one has a home (only expenses: property tax, insur, utilities and maintenance)... has income properties that spin off good cash flow.... has their business that gives them income... and has no debt.

A bi-pod system: one is very comfortable having 1) business earned income, plus 2) passive rental income. Lose your business... still ok due to rental income. Lose your rental income... still ok due to your business income. Can always build another business if you want.

Who cares if the value of your home or your business goes down due to asset deflation, or goes up due to monetary inflation? Valuations are all relative to all the other houses and businesses anyway. You've got a home and a job/business... so to hell with deflation and inflation and the need for all sorts of worry and complicated investment strategies.

This would be considered to be foolish by most financial planners (you're not using leverage, espec during inflationary times! all that equity in your home and rentals is sitting there not being used! etc.). And one isn't going to build a small empire or become "wealthy" this way. But this model would give me my definition of wealth... time; financial stability; immunity of sorts to infla/defla; decent standard of living; no money worries or debts; = the wherewithal to pursue one's goals, have a simple but comfortable lifestyle and minimal worries.


A free and clear house with a home office.
Two small home businesses that generate decent income.
Free and clear income properties giving good passive income and tax advantages.
No personal or business debt.

This gives survival in tough times and also a foundation to thrive as well.

Jim in San Marcos said...

Hi Tyrone

Thank you for the link, I think he is spot on.

I especially liked the quote "Politicians lie. Voters believe. This is the great symbiotic relationship of democratic politics." The key word is "symbiotic"--mushrooms come to mind. Just feed them caca and they grow bigger.

I think anon 1:05 is mistaken. If they steal your car and lock you in the trunk, you're in no position to kick them out of the drivers seat.

Jim in San Marcos said...


I think that the successful plan will be one that is different than what everyone else is doing. The diversity of plans will insure that some people will survive better than others.

Time will test your plan, I hope it works out well for you.

Anonymous said...


You welcome anyone to comment, so I think I will take you up on that offer.

An issue I see with your plan is that you are taking what sounds like your entire savings and dumping it into illiquid assets. Your strategy lacks the flexibility to take advantage of short-term opportunities.

Will your cashflow keep you going month to month? If all the flows end, what form of reserves will you have, other than trying to take out a loan?

You also end up having all your eggs in one basket (the same town).

Commercial real estate is heading south, so you will also have to be careful about timing your purchases. Time it wrong, and you will be stuck right where you are.

Anonymous said...


Just my thoughts...

As each day passes I expect to see the other shoe to drop so to speak economically. I am amazed that system has been gamed for this long and worry that 20 years from now I'll still be waiting. I have a gut feeling that implosion of economy will be like demise of Roman Empire with a death of a 1000cuts.


AIM said...

AIM to Anon 1:25

Thank you for the comments. I need to respond/clarify a few points so you have a clearer picture. I think these points should handle your doubts. Thanks again.

They may be illiquid assets but my goal is decent, dependable cash flow, and income properties are best for that (and give tax shelter to boot).
I also have businesses that generate and will continue to generate income.
I also could pull equity out of my home or my rentals if I needed cash.
I would always maintain a reserve cushion of cash as well.
I've decided to change from apartment buildings to single family homes (actually small 1/2 bedroom homes targeted for the elderly retired). I wouldn't have all my eggs in one town. I would diversify by having them in different regions of the country (regions that have strong drivers and good outlook for the future).
I have a good system of remote property management (I've done it before successfully) Plus, with elderly retired your turnover averages about every 15 years. The only way 95% leave is feet first. I have a friend who has 20 of these properties... all free and clear... and he enjoys over 20k per month in passive income with hardly any oversight due to the system he set up.
I plan to have many of them too. My wife and I are pretty frugal. We will be able to survive on just our business income or just our rental income (having both will give us abundance).

How is that?

AIM said...

Anon 10:55

I know what you mean. The govmt is so out of control and taking incredibly unbelievable interventionist actions they could push this forward for a long long time and keep holding off catastrophes with band-aids, bubble gum, glue and rubber bands... making for a huge chaotic crash sometime in the unfortellable future.

We might be fretting and spending all of our time studying and preparing now for the inevitable crash that is coming... only it won't come!

Anonymous said...

Wow! Look at this. The Fed is respon for buying 80% of the debt being issued (treasuries, agency, MBS, etc.) It is really just the Fed and China and Japan buying treasuries to keep the dollar propped up. There really is no treasury bond market as regards new issuances. If there were, real investors would be forcing interest rates up. Now Geithner wants to extend the term of borrowings!
Author is correct, we live in the Twilight Zone. It just gets scarier and scarier. Where are we headed?

frakrak said...

Jim I have read reports for the past fifteen years, that all the growth in Australia has been achieved by debt!
Real estate in most capitals here has defied the world, apparently 3% increase over the past eight months.

Credit card debt has decreased a little over the same time period, but aussies still have some of the highest personal indebtedness of any developed economy.

I know we are headed for an abyss, but what can you do?

AIM's approach would be similar to mine, (complete ownership of tangible assets). The thing is, this situation now is too hard for anyone to call, so I am going to diversify and cross my fingers.

Jim in San Marcos said...

Hi Frakrak

The banking system world wide looks real bad.

In looking at history, there has always been an explanation after the fact as to what happened. We don't have that luxury this time around. My crystal ball has snow flakes and a snowman inside. Looks to me like we are getting a real government snow job.

I think that diversity is the name of the game. There are people around here carrying that a tad too far. I've got two neighbors around me that are now raising chickens. This area is zoned residential--go figure.

Just maybe, I'll crank up the sun lamp and a dozen eggs and join them.


Jim in San Marcos said...

Hi Rob in NS

I have expected the other shoe to drop for quite a while. I am getting a little long in the tooth and it still hasn't happened----yet.

I don't think that the wait will be years, just months. Of course, what use is common sense, when the government pulls all of the strings?

Hold on, I think this roller coaster is ready for the big plunge.

Anonymous said...


I agree with you but I've been telling friends and family that this is coming down the pipe and all they want to do is get me fitted for tin-foil hat. I'm guessing when I give up and get in the line with everyone else for the bread and circuses it will all blow up. I'm just not sure where the barbarian hordes are going to come from..... (pardon the Roman empire pun).

rob in ns

Anonymous said...

If most of the world is in debt, who has all the money? Is it the world central bankers ? The Global elite? I know this is naive to say, but what about pushing a global reset button. Wipe out all debt everywhere. Anyone in a house now owns it. Car loan? Wiped out, car is yours now. All corporations are brought back to assets + 0 =owners equity, with all corporate debt converted to stock.