Bankers’ Complaint of Uncertainty Obscures Reluctant Disclosure
While bankers complain that regulatory uncertainty is hurting growth, their failure to provide balance-sheet transparency is creating uncertainty for the taxpayers who bailed them out.
Europe’s sovereign-debt crisis already claimed MF Global Holdings Ltd., the brokerage run by Jon S. Corzine that collapsed on Oct. 31, and credit-default swap prices imply a more than 1-in-5 chance of default for Morgan Stanley, Goldman Sachs Group Inc. (GS) and Bank of America Corp. (BAC) in the next five years. That’s up from about 1-in-10 odds at the beginning of July, according to data provider CMA and a standard credit-swaps industry-pricing model.
“European-related risks have overwhelmed whatever cost regulatory uncertainty has imposed on bank lending,” said John Lonski, chief economist at Moody’s Capital Markets Group in New York. “The lack of transparency means we don’t really know what the exposures of major U.S. financial institutions are,” and “we very much have to be concerned about the possible negative repercussions.”
Lonski forecast U.S. economic growth of about 2.2 percent in 2012, above the third quarter’s 2 percent pace. He said it would be “difficult” to see faster expansion, given that turmoil in Europe is limiting the supply of credit.
“There’s a fear of taking risk that is endemic throughout the whole system,” said Milton Ezrati, senior economist and market strategist at Lord Abbett & Co. in Jersey City, New Jersey, which managed about $100 billion as of Sept. 30. “No one knows where the dangers lie.”
As the Standard & Poor’s 500 Index of financial stocks has tumbled about 18 percent (S5FINL) since June on concerns about financial companies’ ability to weather the euro crisis, JPMorgan Chase & Co. (JPM) Chief Executive Officer Jamie Dimon has continued to complain about the “unintended consequences” of financial regulation.
Congress passed hundreds of rules last year as part of the Dodd-Frank overhaul of financial legislation after an unprecedented bailout of the banking system in 2008. Regulators worldwide also are devising new capital requirements.
“There’s growing confusion,” Dimon, 55, said Dec. 7 at the Goldman Sachs U.S. Financial Services Conference in New York, citing a chart that shows about 10 federal agencies that now supervise the industry under the new bank laws. “There’s huge bureaucracy and we’re going to make mistakes,” and “I hope that someone goes back and fixes this one day.”
His comments followed a face-off with Fed Chairman Ben S. Bernanke during a public forum in June, when Dimon pressed the central-bank chief on whether regulators have gone too far in reining in the banking system and hampered the U.S. expansion.
“I have a great fear someone’s going to try to write a book in 20 years, and the book is going to talk about all the things that we did in the middle of the crisis to actually slow down recovery,” Dimon told Bernanke at a conference of bankers in Atlanta on June 7.
Goldman Sachs President Gary Cohn said June 2 that while higher capital standards will “improve the creditworthiness of the industry,” they “will likely impact the availability of credit in the system and weigh on economic growth.”
The cost to protect $10 million of New York-based JPMorgan’s debt against default for five years has jumped 86 percent since June to $145,000 annually, CMA data show. Credit- default swaps on Goldman Sachs bonds also have more than doubled to $321,000 per $10 million.
“Europe matters much more than uncertainty regarding the final form of financial-institution regulation,” Lonski said. “To go ahead and blame reduced access by small businesses to bank credit on more stringent regulations or regulatory uncertainty is a bit of a stretch.”
Lonski pointed to the creation of new high-yield, high-risk bank loans, which amounted to $45 billion a month during the first half of the year and fell to $20 billion a month from July through October as the escalating euro crisis sapped appetite for risk.
JPMorgan, Goldman Sachs and Morgan Stanley (MS) haven’t provided a full picture of their potential gains and losses amid mounting concern that Greece, Italy, Ireland, Portugal and Spain may not be creditworthy.
Banks generally disclose their net exposure to troubled countries in Europe, netting out the gains or losses from contracts used to hedge risk, “but that net exposure means nothing if the companies on the other side of the contracts can’t meet their obligations,” said Paul Miller, an analyst with FBR Capital Markets Corp. in Arlington, Virginia, and a former examiner for the Federal Reserve Bank of Philadelphia.
JPMorgan said in its third-quarter regulatory filing that more than 98 percent of the credit-default swaps it has written on GIIPS debt is balanced by swaps on the same bonds. JPMorgan said its net exposure was no more than $1.5 billion, without disclosing gross numbers in the Nov. 4 filing or how much came from swaps.
Dimon, reacting to questions from investors about the company’s GIIPS exposure, elaborated on Dec. 7 at the Goldman Sachs conference. JPMorgan has bought or sold a total of about $100 billion of notional credit derivatives that insures corporate, financial or sovereign debt in the five countries. The company’s “net” exposure from loans, derivatives and other trading relationships in these nations totaled about $15.9 billion, he said.
Joe Evangelisti, a JPMorgan spokesman, declined to comment.
“There’s just not a lot of clear-cut transparency on what exactly the exposure is, where it lies or who the counterparties are,” Miller said. It’s “very difficult” to analyze the exposure without knowing the counterparties, “and no bank gives that out.”
Goldman Sachs discloses only what it calls “funded” exposure to GIIPS debt: $4.16 billion before hedges and $2.46 billion after, as of Sept. 30. Those amounts exclude commitments or contingent payments such as credit-default swaps, Lucas van Praag, a bank spokesman, said last month.
Regulators need to “figure out better ways to present” banks’ risks, such as their exposure to the European crisis, Federal Reserve Bank of New York President William C. Dudley said during an Oct. 20 speech in New York. Investors are “uncertain” how to think about banks with “huge books of business that net down to more modest net exposures.”
Banker complaints about the costs of regulation are “exaggerated,” Dudley has repeatedly said. “More statesman- like engagement is both warranted and welcome,” and “banking leaders and industry trade groups should propose smart solutions to achieve essential financial-stability objectives and not simply lobby against change,” he said during a Sept. 23 speech in Washington.
Jefferies Group Inc. (JEF), the investment bank whose stock plunged 14 percent last month after MF Global’s collapse, issued at least seven statements on its European holdings and cut its position by about three-quarters as of Nov. 21 in an effort to reassure investors. MF Global failed after placing losing bets on European sovereign debt.
Citigroup Inc. (C) CEO Vikram Pandit, whose bank took a $45 billion taxpayer bailout in 2008, has said financial institutions should be forced to publish results from stress tests every three months. The Fed said last month that it will disclose the results of its stress tests on the 19 largest institutions. Dodd-Frank requires the central bank to conduct the tests annually.
“Whether or not you’re regulated with a supervisory regulator, just put the information out,” Pandit, 54, said Dec. 6 at the Goldman Sachs conference in response to a question about the extent of a regulatory backlash from MF Global’s failure. “If you did that, and you did that consistently over a lot of institutions over a period of time, I think the markets would take care of a lot of this stuff as well.”
Citigroup also doesn’t list gross amounts of credit-default swaps on GIIPS debt in its filings. Its net funded exposure as of Sept. 30 was $7.2 billion and its unfunded commitments were $9.2 billion, the New York-based bank said in a filing and a presentation.
“So I don’t know if there’s a regulatory backlash, but there’s certainly a lot of head-cracking going on in terms of what happened, and I think that’s a good thing,” Pandit said. “It can lead to a safer system.”