Tuesday, May 5, 2009

For some banks, stress tests could not be coming at a worse time

Signs are emerging everywhere that the economy is stabilizing and we could soon see positive economic growth. That's good news for banks, whose businesses are dependent upon the basic condition of the economy.

However, Tim Geithner and the Administration do not see it that way. They see the problem of the banks as one of inadequate capital. They do not realize that the quality of bank earnings and, thus, bank capital, are entirely influenced by economic conditions. In a weak economy bank earnings, assets and capital will suffer and in a robust economy, they will rise.

The soon-to-be-released "stress tests" will show that some banks, perhaps even a few large ones, will need to raise more capital. All else being equal this is probably not so terrible, particularly now that equities are rising. However, the stigma of having "failed" a stress test could imperil some banks whose shares are already very low. I am talking about Citigroup and Bank of America. (For purposes of disclosure, I own both.)

If the results of the stress tests force these institutions into the hands of the government it would be a terrible shame because it would be happening not because of insolvency or failure, but because of an ill-conceived, arbitrary and poorly timed "plan" that purports to be the solution to fixing the banking system.

Absolutely ridiculous!

Read full article in Bloomberg.

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