One Fool thinks the banking crisis is set to run and run.
Barely a year on from the banking crisis and it seems that radical, systemic reform of the sector is off the agenda. Instead, with some slightly tighter regulation things appear to be continuing pretty much as before: bankers are getting bonuses, toxic debts are being off-loaded and banks are back on investors' buy lists.
Well, as the old song goes... there may be trouble ahead.
October's Global Financial Stability Report from the IMF warned that, despite bank writedowns on holdings of loans and securities of US$1,300bn between mid-2007 and mid-2009, there is an estimated $1,500bn of actual and potential writedowns through to the end of 2010 that have yet to be recognised.
Three challenges
All banks, to a greater or lesser extent, also face three challenges in the near future. They are:
- rebuilding capital;
- strengthening earnings; and
- weaning themselves off government funding support.
They have to do this while economic growth in the West remains sluggish at best. It doesn't take a rocket scientist to realise that many banks won't be able to match the profits they've achieved in the past.
Tighter regulation
While there are no signs that the US government plans to reintroduce the Glass-Steagall Act in order to separate investment and commercial banking, some very limited measures are taking place that will probably further reduce bank profits while reducing their risks.
In the UK, the FSA recently announced plans to tighten liquidity requirements for banks, forcing them to hold assets that are truly liquid, such as government bonds. This will mean the yields from such bonds are reduced, leading to lower returns from these assets.
It is estimated that the full introduction of the new regime would require banks to increase their collective holdings of government bonds by £110bn, at an annual cost to the banks of £2.2bn.
The casino mentality remains
Perhaps the most worrying aspect for investors (and taxpayers) is that some people appear to have learnt nothing from the events of the past few years. For example, Barclays (LSE: BARC) recently shocked observers by selling US$12.3bn of toxic assets to an outfit called Protium based in the Caymans, while also loaning them $12.6bn to complete the deal.
It looks like an attempt to get these assets off its balance sheet and, if I were a shareholder, I'd be a little worried that this sort of thing is going on. It highlights the opaque nature of bank accounts and the failure of auditors and accounting standard bodies to address these sorts of transactions in a way that investors can understand.
It's all perfectly legal, I'm sure. It is just an isolated example? I somehow doubt that, given the events of the past year. Indeed, a recent study by two economists, Harry Huizinga and Luc Laeven, with the ever-so-subtle title of: "Fiddling with accounting rules is not going to restore the banks to health" explained that "banks, hoping to preserve their book capital, use accounting discretion to systematically understate the impairment of their real estate related assets. But the accounting reforms announced thus far are exacerbating the gap between book and market values."
They concluded: "In the present financial crisis, the financial statements of banks appear to overstate the book value of assets to the point of becoming misleading guides to investors and regulators alike."
So I'm steering clear of banks.
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