By Eric Dash & Jack Healy - New York Times
Published: 02-11-09
Investors had been expecting the Obama administration to unveil a shock and awe solution on Tuesday for the nations hobbled banking system. But the main reaction was disappointment as the new plan raised more questions than it answered sending stock markets and the shares of banks assumed to be holding toxic assets sharply lower.The Dow Jones industrial average dropped 381.99 points or 4.6 percent to close at 7888.88 led by steep declines in Bank of America Citigroup and large banks already leaning on taxpayers for support. Regions Bank SunTrust KeyCorp and Fifth Third fell more steeply as investors worried that regional banks could be vulnerable to a new stress test" designed to reveal the weakest links in the industry.
The market was looking for a silver bullet" said David H. Ellison the chief investor officer for FBR Funds which specializes in the banking sector. They are getting the wake-up call again that it is going to take time. There is no quick fix here."
Treasury Secretary Timothy F. Geithner laid out a $2 triillion financial stability plan with pillars including an effort to entice private equity hedge funds and other investors to buy hard-to-sell assets that have bogged down banks. Another involves a new round of capital injections for banks deemed to have enough resources to withstand a continued economic decline.
David Burg a financial analyst at Alpine Mutual Funds said banks stocks plunged because the initiative would force many troubled financial institutions to take large amounts of new capital that would dilute the value of their outstanding shares.
These guys are going to do a stress test on top banks and say based on the results You need X amount of new capital and you have to take it. Common shareholders in these banks will get absolutely destroyed" he said.
But that was about the only certainty investors took from hours worth of speeches and testimony by Mr. Geithner on Tuesday. Investors said his failure to publicly detail the mechanics of the plan forced them to make to wild assumptions about various players in the industry.
For example the proposed stress test" seems intended to allow regulators to better assess the depth of a banks problems and convince taxpayers they are not pouring money down an endless hole. The test automatically applies to the nations 20 largest banks and to any other bank applying for taxpayer support.
Federal officials are expected to demand that banks maintain ultraconservative capital levels enough to weather the possibility of a further economic downturn said a government official who was not authorized to speak publicly.
The goal is for banks to have enough of a buffer to lend during the current downturn. That could mean that banks that normally would not need additional capital could require it if the economy worsens.
Banks will be expected to assess their expected losses over the next two years. While Mr. Geithner did not say whether derivatives or off-balance sheet exposures would be included in the test the government official said the test would be customized based on each banks mix of loans and their history of losses.
Regulators will also continue to look at a whether a bank is holding at least 6 percent of so-called Tier 1 capital a well-known measure of its financial health and whether at least half of that capital is held in common stock the official said. But regulators will have leeway to allow a bank to continue operating if it falls slightly short of that standard. It is unclear how the test will apply to Citigroup and Bank of America.
Investors are concerned that unlike these banking giants any number of regional banks are not considered too big to fail. That is worrisome in the current environment because many are sitting on a ticking time bomb of commercial real estate loans whose value is eroding rapidly with the economy.
If regulators impose loose standards for the test banks that might not otherwise survive could receive a lifeline. If they take a stricter stance it could lead to another wave of takeovers and failures.
Gerard Cassidy a banking analyst at RBC Capital Markets projects that up to 1000 of the nations 8400 banks could fail over the next three to five years if the economy worsens. Nine have already closed this year and 25 were closed in 2008. The governments desire to encourage private investors to buy banks distressed assets with the promise of lucrative returns once the economy recovers also lacked clarity.
Sean Dobson chief executive and head trader at Amherst Securities Group a brokerage firm that specializes in buying and selling mortgage-related assets said the plan could help draw investors in distressed debt into the market. But it remained unclear he said if banks would be willing to sell troubled assets at the low prices demanded by private equity and hedge fund investors. At the same time the government would want to avoid the use of taxpayer money to subsidize cheap asset purchases by wealthy private investors he said.
To the extent that they are focused on the fact that there is not enough capital in the system to absorb these troubled assets they are focused on the right problem" he said. But the exact structure of this program is going to be hugely important."
The plan also left open other issues. Treasury officials have not said how much fresh capital would be injected into the biggest banks. Nor have they provided terms for the dividend or the modest discount" to the conversion price of their investment.
Even their effort to increase transparency seemed to send mixed messages. Although the plan called for improving disclosure of assets on bank balance sheets it said regulators would recognize the need not to adopt an overly conservative posture or take steps that could inappropriately curtail lending."
Isaac Baker a Treasury spokesman said the administration aimed to show that it was addressing the financial crisis with urgency.
We understood that some might be disappointed that we didnt announce a large bailout program but our focus is on what will be the best comprehensive plan to protect taxpayer dollars jumpstart lending and bring forth a long-term financial recovery not the hour by hour movement of the markets on any given day Mr. Baker said in an e-mail message.
Still the Standard & Poors 500-stock index fell 4.9 percent or 42.73 points to 827.16 its worst performance since a broad sell-off on Inauguration Day.
Were not impressed and I dont think the markets impressed either said Ryan Larson head equity trader at Voyageur Asset Management. Its clear the administration is still trying to work on something concrete. I think the market sensed that too."
An important measure of market volatility rose as did prices of haven government debt. The price of the benchmark 10-year Treasury note rose 1 17/32 to 107 30/32. The yield which moves in the opposite direction of price had risen to above 3 percent on Monday before closing at 2.99 percent. On Tuesday it fell back to 2.82 percent.
Following are the results of Tuesdays auction of four-week bills 52-week bills and three-year notes:
Ben White contributed reporting.
