Financials Plunge as U.S. Considers New Rescue Options [wsj]
By JON HILSENRATH, DAVID ENRICH and E.S. BROWNING
Shares of the biggest names in American banking plunged Tuesday as some investors feared that the government would need to nationalize the most deeply wounded financial institutions, wiping out stockholders.
The hours-old administration of President Barack Obama is expected to move swiftly to try to stabilize the financial system by pumping more capital into weakened banks and buying bad assets. Nationalization appears to be a last resort, but other options on the table move the U.S. in that direction. In one idea under consideration, the government could buy convertible securities from financial institutions, an approach that could ultimately leave the government owning large chunks of many firms' common shares.
Shares of U.S. banks were down about 20% to their lowest level in more than a decade. Shares of Citigroup Inc. fell 20%, to $2.80 a share. Bank of America Corp. shares were down 29%, to $5.10. The low-single-digit prices of Citigroup and Bank of America shares are a sign that investors are deeply worried about the viability of the industry, from the largest national banks to smaller regional players.
Shares of State Street Corp. fell 59% on Tuesday after the normally staid bank reported nearly $9 billion in unrealized losses. The decline of State Street shares was worrisome because the bank is considered low-risk and plays a crucial role managing cash for big companies and investors. State Street, which remains profitable, said the losses came from declines in its investment portfolio and its exposure to investment vehicles that issue asset-backed securities.
Obama administration officials are sorting through a menu of options as they prepare efforts to clean up bank balance sheets and put them in a better position to lend. Discussions have also advanced on creating a government-backed institution that would buy and hold banks' bad assets, as well as a plan to provide government guarantees on bank holdings. Analysts say that until the Obama plan is unveiled, investors appear to be bracing for the worst-case scenario.
"There's a crescendo of fear in the marketplace," said John McDonald, a banking analyst at Sanford C. Bernstein & Co. Investors are dumping bank stocks "because they don't know what the next government solution is going to be, and there's a fear that whatever it is, it's going to ultimately be dilutive to shareholders."
Investors, who toward the end of 2008 had started to gain confidence that the financial system had begun to heal itself, were sideswiped by a series of big stumbles and losses. Last week, Citigroup reported a mammoth $8 billion fourth-quarter loss. Merrill Lynch reported a big unexpected loss, too, while Merrill's new owner, Bank of America, got its second cash infusion from the government.
Among Tuesday's hardest-hit institutions were banks that bought troubled lenders last fall, a signal private investors are abandoning even the healthiest banks. PNC Financial Services Group Inc., which bought National City Corp. last year, fell 41% on Tuesday, even though it released no news and is considered relatively sound. Shares of J.P. Morgan Chase & Co. and Wells Fargo & Co., which both bought ailing banking giants last year, each fell more than 20%.
Further unnerving investors, some well-regarded regional banks have reported problems in recent days. Regions Financial Corp. of Birmingham, Ala., said Tuesday that it lost $6.2 billion in the fourth quarter due to swelling defaults and a large impairment charge. Its shares fell 24% Tuesday, dipping below $5 for the first time in at least 18 years.
James Smith, CEO of Webster Financial Corp., a Waterbury, Conn., lender whose shares fell 21% Tuesday, said investors seem rattled by the prospect that the government could nationalize banks and wipe out shareholders in the process. He said nationalization will likely be a last resort. "That last resort doesn't seem so far removed at this point, particularly because of valuations," Mr. Smith said. "There's a lot of fear out there."
In Washington, policy makers were watching share declines and considering moves that would go beyond last fall's effort to infuse cash into banks in exchange for preferred shares. While the government money helped to stabilize the financial system for a while, the moves haven't persuaded investors that banks have strong enough financial cushions to absorb further losses. Policy makers are now looking for alternatives to preferred-share investments to help banks build up their equity to give them confidence to begin lending again.
Among other plans under consideration, government officials are weighing the option of buying securities that pay interest like bonds but can be converted into common stock. Such "convertible" securities, typically issued by companies struggling to raise capital, often leave the buyer owning a big chunk of the company. When the securities are converted to common shares, other common stockholders' shares are diluted, cutting the value of the banks' shares. Current share prices appear to reflect that low value.
Federal Reserve officials have proposed that the U.S. consider tying together public equity injections with private investments. That would ensure that the government doesn't take the dominant stake in the financial institutions it supports. It would also provide a way to sort out healthy banks from unhealthy ones, because only healthy banks would be able to raise private capital.
"Consideration should be given to whether it is feasible for some capital injections to be made on a matching basis with private capital raises, thereby providing a market test for those injections," Donald Kohn, vice chairman of the Federal Reserve, told lawmakers last week.
The challenge with this matching approach is that common shares of banks have fallen so far in value that the banks are not in a position to raise much money from private investors, many of whom are already wary of pouring more money into the institutions. The government already has been trying this approach with some struggling banks, requiring them to raise private capital in order to be eligible to receive federal funds. Some of those banks have failed to lure investors.
U.S. officials are wary about taking the most extreme step -- nationalizing banks altogether -- worried about the government's ability to run them. The challenges of running Fannie Mae and Freddie Mac, the two large mortgage-finance firms the government took over last fall, are seen as evidence of that.
But as the market value of many firms evaporates, they may be left with no other alternatives to raise cash. From a political standpoint, there's not much support for protecting shareholders of banks when the government is pouring billions of dollars into the institutions and in some cases guaranteeing their debt.
Administration officials say they are intent on reducing the government's stakes in financial institutions as quickly as they can. In a letter to lawmakers last week, Mr. Obama's top economic adviser, Lawrence Summers, said the U.S. would push to replace public investments with private capital "as soon as economic conditions permit."
As the financial crisis worsens, however, those stakes look like they may continue to grow. Further evidence of investor fear can be seen in investors' waning appetite for banks' preferred shares. These shares are generally considered safer than common stock. But in the bailouts of Fannie Mae, Freddie Mac and American International Group Inc., preferred shares were for all intents wiped out.
Since Jan. 2, an index of preferred stocks in financial companies, the Wachovia Hybrid & Preferred Securities Financial Index, has fallen 26%. Such a sharp decline in a short period is unusual for preferred stock.
The fact that nationalization is considered by some to be possible and is roiling markets reflects the failures of repeated government interventions to stem a widening crisis of confidence in the banking system.
"This uncertainty, this confusion, is corrosive," said Marc Stern, chief investment officer at Bessemer Trust. "Until investors understand what rules the banks will have to play by going forward, they probably will be reluctant to invest and drive their shares higher."
What Obama Inherits
The common stock of the major banks tracked by the Dow Jones Wilshire U.S. Banks Index has fallen roughly $287 billion in value since Jan. 2, a 43% decline in just over two weeks. Banks that have sought further government aid have suffered the most, with Citigroup's market value falling 61% and Bank of America's 64%. The market value of J.P. Morgan Chase, which hasn't sought new government aid, has fallen 42%.
In 2008, financial institutions brought in about $456 billion in new capital, compared with $131 billion in 2007, according to New York brokerage firm Keefe Bruyette & Woods. Much of that has come from Washington: More than 200 publicly traded banks have collected a total of $191.5 billion from Treasury's Troubled Asset Relief Program, or TARP, according to KBW. Nearly half -- $90 billion -- has gone to two companies, Citigroup and Bank of America.
But the capital injections haven't eased investors' anxiety about the banking industry's viability. Since mid-October, when Treasury announced plans to directly inject capital into healthy banks, the Dow Jones Wilshire bank index has skidded 56%. |
