Friday, April 03, 2009

FASB's Move & The Aftermath


OK, we can have our disagreements over what is fair value accounting. But since its been passed and will come into effect as soon as the second quarter, lets look at the real effects on companies and markets. The first area is to look at the Credit Default Swaps for the affected banks. CDSs are basically insurance one can buy to insure against a certain company going bust. Hence if I bought Bear Stearns, and it went bust, the writer/issuer will be paying me the full sum I insured/hedged.

Now, with the new FASB ruling, the CDSs of the banks will reflect whether there was real effect or just a cosmetic effect on these banks' risk of failing following the new rules.


- Citi is in about 40 bps but is just back to where it was on Tuesday
- Bank of America is lower by 50 bps

- Wells Fargo is lower by 30 bps

- JP Morgan is lower by 15 bps, all back to one week lows

-Morgan Stanley and Goldman Sachs are each in about 30 bps


Well, the effect is only minimal at best. The ones in real danger would be Citi and Bank of America, hence the narrowing of risk would be more pronounced there. Other banks which may have a lot less toxic assets in their books, would only see a very marginal reduction in risk. That means that the new rules DOES NOT really help to put the shaky banks out of the risk of possibly going bankrupt. It was the same level of riskiness as things were a few weeks ago.

That would be a correct consequence because the treatment of the "impairment" may be changed but the substance of the impairment is still in the books - hence the risk of failing should be the same or nearly the same as before.


The difference, the really big difference as I have mentioned yesterday is in the capital adequacy side. They will not need to hold so much capital or raise much new capital. That lightens the bank's dilution danger, and eliminates the big danger of failing badly should they fail to get a truckload of new funding over the near term.
The supposed new capital is to plug the hole in the toxic assets write downs, and will not actually help to fund business activities going forward. If they do not sell the toxic assets, they will not be taking the loss in effect - hence I like the amortisation rule of the losses. Thus the reduced need to raise new capital will NOT affect existing operations going forward.

Its not like the new capital will be used for expansion, it was dead money to plus a hole in the balance sheet.
Another consequence will be that many of the banks that received the TARP money will be looking to repay the sums back much quicker. Again, a confidence issue will work its way to boost optimism in the eyes of investors. You cannot imagine how much liquidity still resides on the bylines. Its a confidence issue and moving market back up by 10%-20% over a few weeks is not that strange in extreme market conditions.

Will the markets rally be shortlived? I think this one's got some legs. This bear market crisis was predicated on a significant loss of confidence in the entire financial system. What has come out of the G-20 and the new FASB ruling showed a more sobering and concerted view to address the issues. We are not out of the woods in terms of real economic activity, jobs will still be lost.

However, stock markets are forward discounting models, hence in the eyes of investors, the real economy are looking brighter 1Q2010 and 2Q2010, it is with that foresight that that the Dow Jones could scale above 9,000 and try to consolidate there over the next few weeks.
Will we revist the lows??? ... pretty unlikely.

p/s photo: Pace Wu Pei Ci

7 comments:

Unknown said...

Now look at this,

Bailed-out banks eye toxic asset buys:

http://www.ft.com/cms/s/358e479a-1fbf-11de-a1df-00144feabdc0,Authorised=false.html?_i_location=http%3A%2F%2Fwww.ft.com%2Fcms%2Fs%2F0%2F358e479a-1fbf-11de-a1df-00144feabdc0.html&_i_referer=http%3A%2F%2Fwww.ft.com%2Fhome%2Fasia

With mark-to-market out of the way, lets load up more toxic assets and profit big time at expense of taxpayers

messi said...

Woww, nice yesteryear songs by Sam Hui!!

messi said...

Hi Dali,

These are two of my favorite Sam Hui songs

天才白痴夢
http://www.youtube.com/watch?v=nDL4bSBUCuw

天才与白痴
http://www.youtube.com/watch?v=ylf3_gQ-ThI&feature=related

Great weekend!

RAD said...

Dear Dali
I always read what you write whether in this blog or THE STAR newspaper.

I would like to whether you feel there will be quite a substantial sell down when the 1Q earnings are announced in due course of time

I had anticipated a strong rally, but thought that would happen at tail end of 2Q

Regards
Radhakrishnan Subbrayan

RAD said...

Dear Dali
I always read what you write whether in this blog or THE STAR newspaper.

I would like to whether you feel there will be quite a substantial sell down when the 1Q earnings are announced in due course of time

I had anticipated a strong rally, but thought that would happen at tail end of 2Q

Regards
Radhakrishnan Subbrayan

SalvadorDali said...

radha,

no one will be looking too closely at earnings for last q or even this q as we all know it will still be bad... the mkt is looking for the bigger picture signs, whether the stimulus or other big catalysts are in place and/or effective enuff to bring the mkts back up... earnings is micro, nobody expects much there... even of there r some companies that may show good earnings, they will still not be appreciated as the big picture dominates for now.

Anonymous said...

Dear Dali

What is the impact of KLCL index when both Maybank and TMI new share listing in the market? I wonder it could affect their weight on index as it is calculated base on market capitalization, which in turn derive from number of share x share price.