October 7, 2022

Geithner’s Pump And Dump Scheme

Pump and Dump

According to the SEC website, a pump and dump scheme is one of the most common investment frauds and works as follows:

First, there’s the glowing press release about a company, usually on its  financial health or some new product or innovation.  Then, newsletters that purport to offer unbiased recommendations may suddenly tout the company as the latest “hot” stock.  Messages in chat rooms and bulletin board postings may urge you to buy the stock quickly or to sell before the price goes down. Or you may even hear the company mentioned by a radio or TV analyst.

Unsuspecting investors then purchase the stock in droves, pumping up the price. But when the fraudsters behind the scheme sell their shares at the peak and stop hyping the stock, the price plummets, and innocent investors lose their money.

If all of this sounds familiar it should, since we have probably just witnessed one of the biggest pump and dump schemes ever perpetrated at the expense of witless bank share investors.

Consider the scenario: The Pump

Early this year, the financial system is in a panic as banks announce ever greater losses and talk of nationalizing the banking system is rampant.  Public officials fear a full blown banking collapse if worried depositors start a run on the banks.  Public opposition to bank bailouts is intense.

To stop the growing banking panic, the Fed and Treasury announce that the major banks are too large to fail and will not be allowed to collapse.

An easy to pass “stress test” of the biggest banks is announced to prove to the public that the banking industry is sound.

After a cursory examination of the largest banks, they all pass and are told to raise additional capital just to be on the safe side.

Investors start to buy the bank stocks en masse causing many bank stock shares to double and triple in price.

Over $200 billion in new capital is obtained from investors eager to get in at depressed prices.

Treasury Secretary Geithner states that “this transparent, conservatively designed test should result in a more efficient, stronger banking system”.

Witless commentators at CNBC pile on with predictions that the banks will soon be earning billions in profits.

No less a luminary than Warren Buffet adds to the buying panic by stating that he would put his entire net worth into Wells Fargo.

Potentially catastrophic losses on derivatives, commercial real estate, mortgages, off balance sheet assets and credit cards are swept under the rug as frenzied investors pile into a sure thing.

The Dump

Now, however, Geithner’s brilliant scheme seems to be entering the “dump” phase where “prices plummet and innocent investors lose their money”.  Consider the recent price action in major bank stocks:

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Most of the bank stocks peaked during May and have already declined substantially or appear to be in a distribution phase.  Nervous investors are considering the latest horrendous employment numbers and increasing defaults in virtually every major loan category.   There’s no harm in jumping into a pump and dump scheme early on for some quick gains.  It just might now be the time to jump back out.

Disclosures:  None

Wells Fargo’s New Zero Down Payment Mortgage Program

Risk Of No Down Payment Mortgages

There is  longstanding and overwhelming statistical proof that zero down payment home buyers default on mortgages at a far higher rate compared to home buyers who make a down payment.   This matter has lately received more attention than in the past due to the large number of foreclosures related to zero down payment purchases during the housing bubble years.  In 2005, for example, nearly half of all home purchasers were made with zero down payment mortgages.

Zero Down Payments = Foreclosures

FHA Delinquency Crisis

Could FHA’s rising delinquency rate be due to FHA incorporating risky practices that have become standard in the mortgage industry? Since industry experts often cite 100% financing as being a major factor in the mortgage meltdown, let’s take a look at borrower down payment sources:

The delinquency rate clearly rises in tandem with the increase in non-profit funded down payments.

In 2005, HUD commissioned a study entitled “An Examination of Downpayment Gift Programs Administered By Non-Profit Organizations”. Later that year, another report titled “Mortgage Financing: Additional Action Needed to Manage Risks of FHA-Insured Loans with Down Payment Assistance” was completed by the U.S. Government Accountability Office. Both studies concluded that seller funded down payment assistance increased the cost of homeownership and real estate prices in addition to maintaining a substantially higher delinquency and default rate.

No Skin In The Game
The analysis indicates that, by far, the most important factor related to foreclosures is the extent to which the homeowner now has or ever had positive equity in a home.

Instead, the important factor is whether or not the homeowner currently has or ever had an important financial stake in the house. Yet merely because an individual has a home with negative equity does not imply that he or she cannot make mortgage payments so much as it implies that the borrower is more willing to walk away from the loan.

Rather, stronger underwriting standards are needed — especially a requirement for relatively high down payments. If substantial down payments had been required, the housing price bubble would certainly have been smaller, if it occurred at all, and the incidence of negative equity would have been much smaller even as home prices fell.

No Down Payment

No Down Payment

Courtesy: WSJ

Wells Fargo Initiates Down Payment Assistance Program

Ignoring the overwhelming evidence of high default rates on zero down payment purchases, Wells Fargo (WFC) this week announced a major nationwide down payment assistance program (DAP) to be used for down payment and/or closing costs on FHA, VA and conforming loans.  Incredibly, the program is being advertised as a means of helping low to moderate income applicants achieve the “American dream” of home ownership.

Based on the historical evidence, Wells Fargo is sowing the seeds for the next major crop of foreclosures.  Incredibly, this is being done even as the current foreclosure crisis grows in intensity.  Approving mortgages that immediately put new homeowners at a high risk of default is financial lunacy and a  disservice not only to the homeowner but to a nation already in financial chaos due to defaulting homeowners.

Down Payment Assistance Programs (DAPs)

Help More Low- and Moderate-Income Borrowers Achieve Home Ownership.

Refer your low- to moderate-income applicants to local housing agency contacts and help them achieve home ownership by using one of these Downpayment Assistance Programs (DAPs) approved for use with a Wells Fargo Wholesale Lending first mortgage. DAPs provide financial assistance for qualified borrowers and, depending on the program, may be used for debt reduction, down payment and/or closing costs on FHA, VA and Conforming Conventional loans.

Disclosures: None

Banks Move Quickly From Bust To Boom

Things Change Quickly

Bank Profits

Only a couple of months ago, the consensus view predicted a collapsing  banking industry that would need to be nationalized.  Banks were viewed as black holes with little chance of becoming profitable.  Fortune Magazine was estimating future write downs of as much as $4 trillion.  Citibank appeared to be on the verge of collapse.  The Treasury hastily put together the Public Private Investment Plan (PPIP) to keep the banking industry solvent by purchasing toxic bank assets.

Then, virtually overnight,  the situation seem to change.  Today’s headlines are filled with stories of banks reporting record profits and attempting to return TARP money that they don’t want or need.   Has every bank in the country suddenly become rock solid?  Let’s examine some aspects of the banking industry’s  “miraculous” turnaround.

Reported Profits Questioned

Wells Fargo’s Profits Look To Good To Be True –

April 16 (Bloomberg) — Wells Fargo & Co. stunned the world last week by proclaiming it had just finished its most profitable quarter ever. This will go down as the moment when lots of investors decided it was safe again to place blind faith in a big bank’s earnings.

What sent Wells shares soaring on April 9 was a three-page press release in which the San Francisco-based bank said it expected to report first-quarter net income of about $3 billion. Wells disclosed few details of what was in that figure. And by pushing the stock up 32 percent that day to $19.61, investors sent a clear message: They didn’t care.

Dig below the surface of Wells’s numbers, though, and there are reasons to be wary. Here are four gimmicks to look out for when the company releases its first-quarter results on April 22:

Gimmick No. 1: Cookie-jar reserves.

Wells’s earnings may have gotten a boost from an accounting maneuver, since banned, that it used last year as part of its $12.5 billion purchase of Wachovia Corp. Specifically, Wells carried over a $7.5 billion loan-loss allowance from Wachovia’s balance sheet onto its own books –

The upshot is that Wells could get by with reduced provisions until the $7.5 billion is used up, boosting net income.

Another quirk: The reserve was related to $352.2 billion of Wachovia loans for which Wells was not forecasting any future credit losses, according to Wells’s annual report.

Gimmick No. 2: Cooked capital.

The most closely watched measure of a bank’s capital these days is a bare-bones metric called tangible common equity.

Measured this way, Wells had $13.5 billion of tangible common equity as of Dec. 31, or 1.1 percent of tangible assets. Yet in a March 6 press release, Wells said its year-end tangible common equity was $36 billion. Wells didn’t say how it arrived at that figure. Nor could I figure out from the disclosures in Wells’s annual report how it got a number so high.

Gimmick No. 3: Otherworldly assets.

Look at Wells’s Dec. 31 balance sheet, and you’ll see a $109.8 billion line item called “other assets.” What’s in that number? For that breakdown, you need to go to a footnote in Wells’s financial statements. And here’s where it gets comical.

The footnote says the largest component was a $44.2 billion bucket that Wells labeled as “other.” Yes, that’s right: The biggest portion of “other assets” was “other.” And what did this include? The disclosure didn’t say. Neither would Bernard.

Talk about a black box. That $44.2 billion is more than Wells’s tangible common equity, even using the bank’s dodgy number. And we don’t have a clue what’s in there.

Gimmick No. 4: Buried losses.

How quickly investors forget. One week before Wells’s earnings news, the FASB caved to pressure by the banking industry and passed new rules that let companies ignore large, long-term losses on the debt securities they own when reporting net income.

Citi Swings to Profit, But Defaults Rack Units

Wall Street Journal –Citigroup Inc. said it earned a quarterly profit for the first time in 18 months, logging a $1.6 billion gain between January and March. But many of the banking company’s businesses continued to deteriorate.

Still, Citi’s bread-and-butter businesses, such as global retail banking and credit cards, suffered from swelling loan defaults.

The (profit) figures also include a $2.4 billion boost from a little-followed accounting adjustment under Financial Accounting Standards Board’s rule 159, which governs how banks value their debt.

Separately, analysts questioned whether Citi was skimping on its ongoing reserves, noting that borrowers defaulted or fell behind on loans at a faster clip than Citigroup socked away money to absorb coming losses.

Bank Bailouts Political Hot Potato

Certainly a lot of unusual items in the reported results, especially the $44 billion of Well’s “other assets” and Citi’s large gains from a questionable accounting change on mark to market.  Since bailing out the banks is highly unpopular with the public, it is easy to conclude that the federal regulators gave the banks extreme latitude in accounting for certain transactions to make reported results look better than they would have.  This accomplishes two things – it takes the bailout issue off the front burner and potentially builds public confidence that the banking industry is not on the edge of collapse.  Whether or not this is just kicking the can down the road remains to be seen.

Liquidity Is Not The Problem

The Feds have literally been force feeding cash into the banking system to stimulate lending.  Banks, having seen enough of the poor results of lending money that cannot be paid back, have concluded that lending more is not the answer.  This can be seen in the massive increase in excess bank reserves that have piled up at the Fed.

Excess Reserves

Excess Reserves

Banks Have Learned Their Lesson On Dealing With The Government

Trapped In Tarp- Forbes

It’s getting itchy under the TARP. Calling funds from the Treasury Department’s Troubled Asset Relief Program a “scarlet letter” for banks, JPMorgan Chase Chief Executive James Dimon said Thursday that his firm is eager to return the $25 billion they’ve received from the government, and will do so as soon as possible.

Many banks are eager to get out from under the government’s thumb. Earlier this week, Goldman Sachs ( GS news people ) announced plans to sell $5 billion in new shares to help repay its $10 billion in TARP funds sooner rather than later.

For Dimon, the goal seems to be steering clear entirely of the controversial government programs designed to rehabilitate the banking industry. JPMorgan won’t be participating at all in the Public Private Investment Plan, the Treasury’s program to buy unwanted assets from banks by matching capital from private investors and backing the assets with guarantees.

Dimon wants no part of it. JPMorgan will manage and sell its own assets, he says. “We don’t need” PPIP, he says. “We’re certainly not going to borrow from the federal government, because we’ve learned our lesson about that.”

Lesson For All

The cost of government aid far exceeds the benefits in the judgment of those running the banks.  The bankers now seem more inclined to take their chances rather than tolerate the micro managing of their businesses by the Feds; certainly something to consider for any company contemplating a request for government “help”.

Whether the banking crisis is over is far from certain at this point.  The economy remains weak and loan defaults continue to threaten the profitability of the banking industry.  One thing for certain is that most banks do not want the heavy hand of the government destroying their franchise.  Given the reality of these circumstances, the only banks likely to request TARP funds in the future will be the total basket cases.  Forget the new “stress test” – going forward the Treasury can save time and taxpayer money by simply assuming that any bank weak enough to request aid should be closed down.

Banks Push Back On Bailout – Wells Fargo Calls Stress Test “Asinine”

Wells Fargo Discovers High Cost Of Government Help

Wells Fargo Chief Calls Stress Test Asinine

March 16 (Bloomberg) — Wells Fargo & Co. Chairman Richard Kovacevich criticized the U.S. for retroactively adding curbs to the Troubled Asset Relief Program, which he said forced the bank to cut its dividend, and called the administration’s plan for stress-testing banks “asinine.”

When the U.S. Treasury persuaded the nation’s nine biggest banks to accept capital investments in October, it signaled the whole industry was weak, Kovacevich, 65, said in a March 13 speech at Stanford University in California. Even though Wells Fargo didn’t want the money, it must comply with the same rules that the government placed on banks that did need it, he said.

Kovacevich joins a growing list of bankers who are chafing at restrictions imposed by the TARP program, which affect lending, foreclosures, pay and perks. Lenders including Bank of America Corp., U.S. Bancorp and Goldman

Kovacevich said the government is still making mistakes as it tries to save the industry.

“We do stress tests all the time on all of our portfolios,” Kovacevich said. “We share those stress tests with our regulators. It is absolutely asinine that somebody would announce we’re going to do stress tests for banks and we’ll give you the answer in 12 weeks.”

Regulate Yes – Operate No

Wells Fargo Chief Kovacevich is discovering the truth of Ronald Regan’s quip when he said the nine most terrifying words in the English language are “I’m from the government and I’m here to help”.  I applaud the head of Wells Fargo for pushing back and rejecting the heavy hand of the government in the banking industry.   Those banks that have run their operations properly should reject or return bailout funds and run their operations free of the strangulating hand of government control.  The government should regulate banks – not operate them. The government failed at regulating banks in the past – what are the odds that the government could run a bank properly?

Many other banks are also pushing back and returning TARP money that they say was forced upon them.  Ironically, the TARP money that certain banks were required to accept wound up causing more harm than good.   The banks that accepted TARP funds were viewed as tainted by the public.  The interest rate that the government was charging the banks was so high (up to 9%) that the money could not be profitably lent out without taking undue risk.

TARP was passed by Congress last year after the Fed, the Treasury and the President employed scare tactics, predicting financial Armageddon unless the $700 billion bailout was approved.  Now we learn that much of the TARP money was forced upon banks that did not need the money and now wish to return it.  This entire episode leads us to wonder exactly how poor the government’s comprehension of the banking problem was to begin with.  Any future scare tactics employed by the government to borrow more trillions to “save us” should be viewed with great skepticism.

Banks Scramble to Return Bailout Funds

A growing number of healthy bank chains across the country are bailing out of the $700-billion federal banking bailout program, saying it has tarnished the reputation of banks that took the money and tangled them in unwieldy regulations.

“The TARP money is tainted and we don’t want it,” said Jason Korstange, a spokesman for Minnesota-based TCF Financial Corp., which received $361 million and announced this month that it wanted to pay it back. “The perception is that any bank that took this money is weak. Well, that isn’t our case. We were asked to take this money.”

The bank issued a toughly worded statement earlier this year, saying that the money had put the financially strong banking chain at a “competitive disadvantage” and that the bank now believed it was “in the best interest of shareholders” to return it.

For Rothenberg, the banker in Century City, the prospect of unlimited government intervention was too much.

Only a few banks formally have told the department they would return the money early, although others have signaled they intend to follow suit, a Treasury spokesman said.

So far, the banks are waiting to hear how they are supposed to return the money.

Government Cure Was Worse Than The Disease

The banks have learned that any free enterprise operation that gets entangled with the suffocating idiocy of government bureaucracy will neither live long nor prosper.  The government cure turned out to be worse than the disease.  Now let’s see how long it takes the government to figure out the rules that must be followed before the banks can return the taxpayer money that they don’t need or want.