Distressed US banks: New policy for Tarp banks as delinquencies rise


Helen Avery
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Extent of US bank failures to be revealed in H2 2011; M&A in US banking sector will be subdued

With 139 banks having failed to pay Troubled Asset Relief Program dividends, and almost 20 now having missed as many as six payments, the US Treasury announced at the end of 2010 that it would be appointing monitors to oversee high-risk banks, and might install directors on some of the banks’ boards.

The banks that have missed six or more Tarp dividend payments represent investments of about $1.3 billion. That’s not a small sum but analysts point out that given the success of Tarp, bad press about small banks that have struggled to make repayments is overblown. Dick Bove, financials analyst at Rochdale Securities, says that the negative sentiment surrounding Tarp should be counteracted. "For one, were it not for Tarp, there would be higher unemployment, and companies would have failed, and the financial system might have failed. And secondly, when all is said and done, if you look at the bank part of the Tarp programme, it will have made the US government some $25 billion in profit."

Number of Tarp banks failing to make payments on rise

(Including those entering Chapter 11 or FDIC receivership)

Number of Tarp banks failing to make payments on rise

Source: Linus Wilson, University of Louisiana

Linus Wilson, a professor at the University of Louisiana, is critical of the decision by the Treasury to introduce monitors in the banks that have missed Tarp repayments. "$1.3 billion is a big deal. If that was a private equity firm which had $1.3 billion in distressed investments, would it write those off? No, so the Treasury has a right to make sure it gets its money back. But monitors will be paid out of the Treasury’s coffers. It is better to appoint board members that the banks themselves have to pay for."

Slashing repayments

US taxpayer shortfall resulting from decreased Tarp dividend repayments

US taxpayer shortfall resulting from decreased Tarp dividend repayments 

As the number of banks delinquent on their Tarp repayments has reached a record high, the Obama administration plans to introduce a new programme to prevent other Tarp recipients headed down the same road. Banks with less than $10 billion in assets will be able to convert their Tarp preferred shares into government preferred shares, slashing dividend repayments from 5% to 1%. Wilson expects nearly all the remaining Tarp recipients that are eligible for the programme to convert. "There are roughly 450 of the 600 banks still in Tarp that are eligible and converting will support those that might otherwise have fallen behind on their payments." Wilson estimates the cost to the US taxpayer, however, to be about $1.4 billion, because of the decreased dividend repayments.

That there are concerns about Tarp recipients being able to meet payments is hard to believe given that only a small number of US banks have failed during the crisis compared with the 1990 savings & loans crisis. According to SNL Financial, 157 US banks failed in 2010. But Bove says the real extent of bank failures has been covered up. "The Federal Deposit Insurance Corp will not take over banks that have a positive cashflow, but this doesn’t mean these banks are not bankrupt. The FDIC is just delaying the inevitable," he says. "People are putting money in the banks still – particularly in the Gulf of Mexico where insurance money from the BP oil spill is coming in. According to the FDIC’s rulebook, that means those banks have positive cashflow and are therefore allowed to continue to be in business." However, he adds: "These banks have no capital. Loans have been defaulted on, but the FDIC does not view those losses as current. These banks are staying in business when they have lost all their capital. When the new capital requirements are formalized, many of those banks will fail."

Bove expects the situation to go unnoticed until Sheila Bair’s term as chair of the FDIC ends in June. After that, he predicts as many as 150 banks will fail in the US by the end of 2011. A partner at a consulting firm in New York expects failures to continue for several years. "The smaller financial institutions are facing capital adequacy ratios they will not be able to meet," he says. "We could be looking at another thousand failed banks in the US."

Until capital requirements for US banks are finalized, Bove expects M&A activity in the US banking sector to be subdued. "It would not be wise to think about buying a US bank at the moment. It makes more sense to wait to see what the new capital requirements will be, and what the FDIC post-Bair will do regarding low-capital banks. Acquirers would do better to wait for potential FDIC-assisted deals."

So Bove doubts that PNC Financial, the seventh-largest US bank, will acquire Regions Financial. Regions, the 15th-largest bank, was reported to be in talks in November to sell to PNC. Regions has been struggling with non-performing assets and was downgraded to junk status by Standard & Poor’s in November. Regions owes the Treasury $3.5 billion in Tarp funds.