Wells Fargo to Show $120 Billion in Stress Test Losses

[girl gone mad]

This news has gotten under my skin a little, since all of the cheerleaders were out in force last week telling us it was rainbows and unicorns from here on out thanks to WFC's great quarter... never mind that WFC was borrowing at near 0% interest rates and lending back to us at 5%, or that their reserve ratios are well below industry standards.

Here's http://www.nakedcapitalism.com/2009/04/analyst-wells-fargo-to-show-120-billion.html">Yves Smith's commentary:

Analyst: Wells Fargo to Show $120 Billion in Stress Test Losses

KBW, a firm specializing in bank stocks, expects Wells Fargo to show $120 billion in "stress test losses", meaning losses under the assumption of a supposed worst case of recession through the first quarter of 2010 and unemployment reaching 12%. Note that the 12% figure (according to Bloomberg) was included in the analyst's report;. This differs from the scenarios originally announced (did I miss some revisions?):

Tests a baseline and an adverse case looking two years into the future.

Uses three metrics: GDP, Unemployment and Housing Prices.

Baseline case 2009: -2.0% GDP, 8.4% unemployment and a 14% decline in housing prices.

Adverse case 2009: -3.3% GDP, 8.9% unemployment and a 22% decline in housing prices.

Baseline case 2010: +2.1% GDP, 8.8% unemployment and a 4% decline in housing prices.

Adverse case 2010: +0.5% GDP, 10.3% unemployment and a 7% decline in housing prices.

In any event, $120 billion is a doozy for a bank the size of Wells. To put it in perspective, as of year end, the San Francisco bank had $481 billion of assets and shareholders equity of $45 billion. Thus if the losses forecast in the supposed downside scenario materialize, Wells is insolvent beyond any shadow of a doubt.

And as we have discussed elsewhere, the Carmen Reinhart/Kenneth Rogoff work on past financial crises found (as of last year) that the US was following the trajectory of a typical crisis country. If that continues, the total decline in GDP will be 5% (worse than the assumptions above) and unemployment will peak at 7% over the pre-crisis level, or close to 12%. And all the other crisis countries faced a backdrop of global growth, so if anything, we should expect that the odds favor things turning out worse, not better.

No wonder Wells underreserved for credit losses in the first quarter. Best to keep up appearances as long as possible, particulalry if you might be able to get a Hail Mark stock offering completed.

And no wonder chairman Richard Kovacevich berated the tests as "asinine":

“Is this America -- when you do what your government asks you to do and then retroactively you also have additional conditions?” Kovacevich said. “If we were not forced to take the TARP money, we would have been able to raise private capital at that time” and not needed to cut the dividend to preserve cash, he said.

This is one of the biggest whoppers I have ever heard, since it wraps so many lies in one statement. First, the money being "forced" on the banks was a huge charade. The money they got was on considerably better terms than best of the bunch Goldman was able to secure at the time, and with the markets hanging on a thread, they were happy to take it. Indeed, by all accounts last October through December the banks were delighted. It was only when the government started getting tough about executive comp that the tune changed.

Second, TARP or no TARP, Wells would have been forced by its regulators to cut dividends. Blaming it on TARP is specious.

Third, when you are a regulated entity, as Wells is, you are subject to whatever audits and inspections the regulator deems necessary. In this case, the excuse is the TARP, but we have been saying since Bear went under that first thing the regulators should have done is go over the big financial firms in intrusive detail to find out how solvent they were. The TARP seems to be an excuse for the Treasury to get some regulatory mojo back (although as we have said before, the stress test looks to be a fig leaf rather than a serious exercise).

Fourth, there has been no capital for bank. Sovereign wealth funds shut their wallets long ago; PE firms look more interested in de novo banks than the diseased hulks on government life support; Goldman is going to get its offering off only by virtue of a big rally and good first quarter earnings. Wells is no Goldman, and the idea that it was only government mandated dividend cuts that kept it from raising equity is an utter canard.

So if Kovacevich was complaining about a watered-down, industry friendly version of the inspection that should have taken place, it's a no-brainer that they expect not to do so well. But mirabile dictu, their earnings announcement sparked a big rally. Never underestimate the credulousness of true believers.

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[roguevalley]

1. oh crap. there goes my mortgage