When the Chairman of the Board of Governors of the Federal Reserve System, Ben Bernanke, comments that “major financial institutions will not be allowed to fail,” his remarks certainly cannot be taken as any kind of guarantee against losses by bank employees, investors or bond holders, though his statement does have definitive, forward-looking connotations for the largest, remaining financial entities.
Citigroup (C) has suffered the most of those large institutions and, along with Charlotte-based Bank of America (BAC) has been at the top of the list when market talk turned to failure of large institutions or whether some institution is too large to fail. At Citigroup, investors have lost dividends and have suffered dramatic loss of share value as the dividing bank’s stock has plummeted in value from the mid $20’s to less than a dollar since the beginning of October, 2008, when the market slide in response to the recession really began to accelerate. The losses continued, despite economic assurances from Citi CEO Vikram Pandit, and continued statements about government commitment to the banking system by Bernanke, Treasury Secretary Tim Geithner, and President Obama. Bank-of-America shares lost about 90-percent of their value in the same period.
Before the weekend ending the mid-March, four-day rally, the hyped T.V. talk of Wall Street, relating to Citigroup, was more “when” rather than “if” bond holders would start to “share the pain.” The early disclosure of January and February profits at Citi, combined with statements that further relief funds are not needed, presently, along with the kinder-than-expected, March 12 reduction of the mainstay, economic-prism, General Electric’s (GE) credit rating, from AAA to AA-plus, and the collateral Standard & Poor’s outlook-raise for the rainbow-finance-spectrum company, from negative to stable, spurred the week-ending rally and calmed the jitters of any possible trashing of bond obligations, for now. Moody’s also dropped GE’s rating, 11 days later, to AA2, repeating S&P’s “stable” outlook and spurring another rise in share prices as trading volume jumped about 20-percent above the three-month average.
General Electric fared a little better than the banks, losing about 74-percent of its value in the slide that began in October, in large part because of investor concerns over losses in its capital-lending unit, and those concerns were compounded by Chairman and CEO Jeffrey Immelt’s about-face on keeping hands off the quarterly dividend, which he ended up cutting by 68-percent, to 10 cents, the first reduction since 1938, as he passed on taking more than $12 million in compensation. The cut in the dividend was really a rather large, tactical mistake, because had he eliminated the dividend entirely, it is unlikely that the market response would have been very much worse, for very much longer, and he would have had that cushion to provide the capability to restore a partial dividend sooner than can now be contemplated, which would have provided a discretionary, positive jolt for both GE and for the economy. But, whether it is shareholders, losing dividends or seeing them diluted through conversion of government holdings from preferred shares to common stock, or bondholders who lose as a result of “organized” bankruptcies that leave banks standing in the wake of the ruined investors and creditors, the meaning of “not allowed to fail” was open to many unpleasant interpretations, for all of which, leaving the banking entities in place is the only certainty. Bernanke provided some narrowing to the scope of meaning the phrase carries when he was interviewed during the post-rally weekend.
Bernanke has been somewhat less guarded than Geithner in statements relating to failures and bail-outs, but both men have been unwilling to define what is “too big to fail” or what is or isn’t “failure,” turning questions, instead, to the steps outlined in the president’s plan for the relief funds and the big picture of recovery strategy, while the president has remained firm in issuing statements supporting the economic machinery without getting too specific on focus, beyond the broad strokes on credit stimulus, education, health, and energy-spending measures, and to bringing back Democratic regulation and oversight to restore balance to the left-over, run-amuck, derailed train wreck of Bush-Reagan, conservative-Republican capitalism.
Bernanke’s most recent comments, given in a first-ever, Fed-chairman live interview, to “60 Minutes,” were consistent with previous statements, but more definitive of the “not-to-fail” statement. He said he “is seeing green chutes,” and expects the decline in the economy to end before 2010, that year to be a one of “strong stabilization and enduring recovery,” and that the risk of depression is passed. He also said the large banks are solvent, and repeated his assurance that they will not be allowed to fail, that instead, in cases where it might become necessary, stabilization will be provided as entities that may come to require it are “wound down,” which he went on to define as divesting and splitting apart, in a long-term process, proceeds to repay the government, essentially the same process going on with A.I.G. (AIG) now. Translated, this means that “too big to fail” does not mean too big to reorganize. And while the banks seem to be safely on the rails, GM is giving ultimatums to its debtors, with “controlled” bankruptcy as the hammer if they fail to reorganize their payment terms, knocking GM off the track to recovery, which, in any case, appears will be accented by a three-month shutdown of plants in response to bottoming sales.
Both Geithner and Bernanke are tied to the framework of the recovery script the White House has written, and to the necessity of being perceived as united in action and belief that the actions taken and planned, whatever they turn out to be, will sooner than later lead to a bottoming and recovery out of the recession. So far, in the first days of the week after that post-recovery weekend, the market has held on to the gains and had a steady, though slight climb, which could be only the historical prelude to a third testing of the bottom before the recovery Bernanke speaks of really begins to gather steam. And while everyone except, maybe, the Republican-right, apparently drug-damaged, Rush Limbaugh, hopes the four-day rally into the Ides of March was the sign of a bottoming-out instead of another gasp between stabs to the economic heart of the country, it seems very clear, particularly after Bernanke’s interview, that he, along with Geithner and the president, have said more than enough, often enough, to give cause to buy and hold shares of Citi or Bank of America, since if they were to let them fail now, investors would have an air-tight case that they were deceived and baited, both by the complete lack of cautionary maybes and by the many assurances uttered in response to direct questions about those banks and how they relate to the official view on “too big to fail.”
In the weeks since Bernanke appeared on “60 Minutes,” the administration has said that it would likely convert existing bank loans into common shares to stretch the remaining $135 billion of relief funds and delay further funding requests from a reluctant Congress, unemployment has risen as it was predicted to months ago and appears headed on a slowing rise to the also, early-on predicted 10.1 percent maximum, which, since unemployment lags recovery, dovetails nicely with the bottoming out of the housing-sales slump; the extended, near-1500 point, three-week, stock-market rally, with leading gains from previous bank losers; and the slight pick-up in durable-goods sales. It also fits in with the better-than-expected, first-quarter profits from the banking sector, with JPMorgan Chase (JPM) and Wells Fargo (WFC) breaking profit records, Bank of America investment profit near doubling over last year with retail-banking profit up near 35 percent, and Citigroup maintaining its previously-announced, first-quarter profitability; although, for all four banks, gains in trading, investment, and operations were squeezed by still-rising write-downs across the spectrum of loan obligations, which was reflected in flat market responses.
But public and congressional assurances were provided again, by Geithner, in the third week of April, that the banks are well-enough capitalized to sustain the bottoming of the recession. And while concerns shift toward consumer debt write-offs, they are recognized as being quite different from the derivatives since they are not nearly as large and can far more easily be quantified. While those assurances were tempered by cautions that the ride to the light will remain bumpy, it was true, as reported before the rally, so far, sustained, and remains valid now, that life goes on, and where Citigroup and Bank of America are concerned, and for the grab-bag of value stocks that are trading at near 10 percent of earnings, upgrade to “Buy” from “Sell” remains the outlook advice.