U.S. Needs to Pump $1.2 Trillion Into Banks, FBR Says (Update1)
By Daniel at 20 November, 2008, 1:18 pm
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Nov. 20 (Bloomberg) — The U.S. may need to spend as much as $1.2 trillion to stabilize the eight largest financial institutions because private investors are unwilling to take the risk, an FBR Capital Markets analyst said.
“The sheer size of the capital deficiency, coupled with the opaque nature of credit risk, will keep private capital sidelined,” Paul Miller said in a research note yesterday.
Treasury Secretary Henry Paulson has spent $290 billion of a $700 billion Troubled Asset Relief Program buying stakes in banks and in insurer American International Group Inc. to stabilize the U.S. markets. The Treasury’s preferred equity investments aren’t “real capital” and won’t ensure the firms will survive, said Miller, who’s based in Arlington, Virginia.
The eight companies are Bank of America Corp., JPMorgan Chase & Co., Citigroup Inc., Wells Fargo & Co., Morgan Stanley, AIG, Goldman Sachs Group Inc. and GE Capital Corp. They have a combined cushion of roughly $405.7 billion in tangible common equity, FBR estimates. They also have as many losses, $408.3 billion, on their balance sheets that will eventually hit earnings and wipe out that equity.
Though Treasury’s cash injections so far have bolstered bank capital, they give Treasury a senior repayment position that leaves common equity holders to absorb the majority of the losses, Miller said.
Equity Injections
“Only injections of true tangible common equity will solve the current crisis,” Miller said. “If losses are large enough to affect book value and stock price significantly, a company’s probability of failure increases, regardless of the level of preferred or regulatory capital.”
The U.S. needs to temporarily inject at least $1 trillion to $1.2 trillion in common equity to restore investor confidence and weather losses stemming from the worst housing market since the Great Depression, Miller said. He said it will likely take three to five years for the financial system to fully recover. The industry is still “over levered,” he said, estimating the amount of tangible equity at eight of the largest U.S. financial institutions at 3.4 percent of total assets and the leverage ratio at 29 to 1.
“Eventually, capital levels will be strengthened by both private capital raises and internal capital generation, but the federal government will have to be the primary first responder to the crisis,” Miller said.
U.S. foreclosure filings increased 71 percent in the third quarter from a year earlier to the highest on record as home prices fell and stricter mortgage standards made it harder for homeowners to sell or refinance, RealtyTrac, a provider of real estate data based in Irvine, California, said on Oct. 23.
Lower property values will keep eroding home equity. The S&P/Case-Shiller home-price index of values in 20 U.S. cities dropped 16.6 percent in August from a year earlier, the fastest pace on record. The index has been lower every month since January 2007.
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