PrefBlog

Naked Capitalism points out that banks’ balance sheets tend to bloat in times of economic stress (this has been true for a long time – see Banks’ Advantage in Hedging Liquidity Risk) but manages to overstate his case:

A reader pointed us to this Bloomberg story, “Tribune, Dole May Need to Draw Down Bank Credit Lines,” which suggests that these two companies accessing committed credit lines is a harbinger of further demands on bank equity (note that a standby line does not result in a capital charge until the funds are drawn down).

Unfortunately, the helpful note is incorrect: a standby line does indeed result in a capital charge, equal to 50% of the charge that would be applied if the funds were actually drawn, provided this line is irrevokable:

Off-balance sheet items subject to a 50 percent conversion factor:
(1) Transaction-related contingencies, including performance standby letters of credit, shipside guarantees, bid bonds, performance bonds, and warranties.
(2) Unused portions of commitments with an original maturity exceeding one year, including underwriting commitments and commercial credit lines.
(3) Revolving underwriting facilities (RUFs), note issuance facilities (NIFs), and other similar arrangements, regardless of maturity.
…
Off-balance sheet items subject to a zero percent conversion factor:
(1) Unused portions of commitments with an original maturity of one year or less.
(2) Unused portions of commitments (regardless of maturity) which are unconditionally cancellable at any time, provided a separate credit decision is made before each drawing.

Assiduous Readers will remember that liquidity guarantees for ABCP are charged at a 10% conversion factor, subject to certain qualifying rules, and that there are rumblings (supported by me) that this might change.

For further confirmation of this fact, we can look at Citigroup’s Annual Report, page 75, “Components of Capital Under Regulatory Guidelines”, Note 7:

Risk-adjusted assets also include the effect of other off-balance-sheet exposures, such as unused loan commitments and letters of credit, and reflect deductions for certain intangible assets and any excess allowance for credit losses.

According to the most recent FDIC quarterly report:

Unused loan commitments – includes credit card lines, home equity lines, commitments to make loans for construction, loans secured by commercial real estate, and unused commitments to originate or purchase loans. (Excluded are commitments after June 2003 for originated mortgage loans held for sale, which are accounted for as derivatives on the balance sheet.)

This line item (see Table II-A) totalled USD 8.3-trillion in the fourth quarter of 2007, up 10% from 4Q06.

Accrued Interest looks at the US Jobs number as a predictor of stock prices:

Conclusion? During the last recession, unemployment predicted nothing useful to investors. Even had you been given a crystal ball and knew for a fact what future unemployment figures would be, it still wouldn’t have consistently indicated the right market trade. In fact it often would have given you the wrong indication.

True enough, but the last recession was a little funny … the market spent the first 2-3 years of this century unwinding the Tech Wreck … which is not to say that Accrued Interest is wrong, mind you, but rather to point out that there are a lot of factors in this chaotic world, and it is just as wrong to dismiss an indicator out of hand as it is to place blind faith in it. It’s all data.

Volume picked up today, although it can be called “good” only in contrast to recent depressed levels. Not too many price moves.

There were twenty-three other index-included $25-pv-equivalent issues trading over 10,000 shares today.

This entry was posted on Tuesday, April 8th, 2008 at 8:36 pm and is filed under Market Action. You can follow any responses to this entry through the RSS 2.0 feed. You can leave a response, or trackback from your own site.