The Emperor has no clothes!
It always pays to keep a weather eye on the smaller economies which is why I write the Down Under series. They are the canary in the coal mine and the canary is singing today!
After months of posturing, rationalizing, wheedling, complaining and continuously misleading shareholders and investors, one of the Four Pillars Down Under, the Federally protected National Australia Bank has been forced to bite the bullet and come clean on its CDOs, a shot that will be heard around the banking world.
From Robert Gottliebsen a prominent Australian market commentator and the Australian newspaper today: The National Australia Bank's decision today to write off 90 per cent of its US conduit loans will have dramatic repercussions around the world. Wall Street will be deeply shocked when they understand the repercussions of what NAB has done. It is clear global banks have nowhere near provided for their exposures to US housing loans which in the words of John Stewart the NAB CEO are experiencing a “meltdown”.
US banks have written down $450 billion in bad housing loans. The revelation from NAB means that they will now certainly need to take provisions to $1,000 billion. But write-downs of $1,300 billion and perhaps even more are on the cards.
NAB says that it is suffering a 55 per cent loss on American housing loans – an event that has never happened in the history of a developed country in recent memory. This is an unprecedented event and means that the cost of bailing out the US financial system is now far beyond the highest estimates. A US recession is now locked in, but more alarmingly, 55 per cent loan losses point to the possibility of a depression.
It means the cost of bailing out housing exposures to the two mortgage insurers will be so great that it will leave no room to bail out anything else and there are several US banks that are now in big trouble. NAB says that the dislocation in the residential market is separate from the corporate market, but the flow on is inevitable.
As I have previously told you, banks are never to be trusted and NAB tried to keep this little problem under wraps as they pushed through an $800 million bond issue.
If you think these numbers are small by global standards, they are, but NAB is Australia’s second largest bank and New Zealand’s largest, and globally it is well enough respected that its actions cannot be ignored. The real story here is that at last there is a credible attempt at “mark to market” and other banks including US and European banks will either be forced to acknowledge reality or come up with a very convincing story why not. What has forced NAB to come clean is not at all clear, but they have known and concealed this for months. We will soon find out.
The NAB provision related to a $1.2 billion portfolio of collateralised debt obligations, or securities backed by US sub-prime mortgages held in conduit facilities that were established to help finance the bank's customers. NabCapital head John Hooper said vacant homes in the US were now at a record level of 10.6 million, which was depressing prices and leading to mortgagee sales where less than half the bank loan was recovered. Losses of up to 50 per cent of a mortgage's balance, he said, were "miles outside any loss expectations" in a mature economy. The expectation was that the situation would deteriorate, making it prudent to provide for a worst-case scenario. This called for write-downs covering almost 90 per cent of the portfolio.
Mr Stewart effectively ruled out NAB playing a role in the current round of merger and acquisition discussions, saying he had been wrong to think in March that the Bear Stearns bailout had signaled the low-point of the credit crunch.
Of course he was wrong. Blind Freddie knew he was wrong. For a $20 million package I guess we could at least expect a bit of common sense. Now, let’s get to the good part. The four major Australian/New Zealand banks have already received undisclosed billions in loans and quasi capital injections from the Australian Futures Fund as I told you in previous articles. The Four Pillars of Australian/New Zealand banking are not required to value their mortgage lending at market price so they carry them at full value. Note that no provision has been made for NABs Australian assets as it tries to pretend this is a peculiarly US problem. Given that Australia and New Zealand are going to suffer at least some of the pain being experienced in US and European markets, we can assume that at least 30% of the Aussie bank’s domestic mortgages will be bad and that is not even mentioned yet. But it will be.
A JPMorgan bank analyst launched a savage attack on management in the conference call, saying NAB was continuing its "tradition" of disasters after providing reassurance to investors that the bank had been fixed.
The American bank it purchased, Great Western, was a good idea but it is now clear it overpaid for it. But what’s happening to the NAB is not the main game. The global banks have been marking to market the assets they held on their balance sheet, but the vast amounts held in so called 'conduit trust accounts' have not been written down. Where will the equity come from to cover these bad loans? The world has never attempted a rescue effort of this size and it will make liquidity in the globe very tight. That’s why corporates will be hit.
What fun. How much simpler it all could have been if these guys had read my previous Down Under articles. It was all so clear to me long ago. And now the cracks appear and the rest of the story will unfold. The Australian Stock Exchange supposedly has a continuous disclosure policy. Directors are required by law to certify that their accounts are “true and fair.” Banking supervisors including auditors (who probably got cold feet and forced the disclosure), and the Reserve Bank have been out to lunch. A staple banking skill.
Have a good weekend. I doubt the bankers will.
Copyright © 2008 John Needham