“The impact on the broader economy and financial markets of the problems in the subprime market seems likely to be contained.”
That’s what Fed chairman Ben Bernanke told Congress in March 2007.
He was trying to instill confidence in the markets. And it worked...for awhile.
The subprime debt wasn’t “contained” though. Not even close.
Stocks went on to drop 42% from that point and investors who believed those words paid a high price for it.
Now, I believe we’re seeing an eerily similar situation play out and the costs in losses and missed opportunities will be just as great as they were a few years ago if you’re not prepared.
Fool Me Once...
A banking crisis has slowly started to form over the last few weeks.
Bank stocks are getting pounded. Shares of Bank of America (BAC), JP Morgan Chase (JPM), and Citigroup (C) are down 36%, 25%, and 37%, respectively, in just the last three months.
That’s bad. Probably a sign of worse to come too.
But it’s not even the main problem. It’s increasingly looking like it’s in Europe once again.
It’s not Greece though. Or Spain. Or Portugal.
If it were those, we know a few hundred billion euros of loan deals and guarantees can paper over them and buy a couple more years time.
They’re small and that has been done before. This time is a bit different and much more worrisome and risky too.
This time the epicenter of the current and slowly unfolding banking crisis is in Europe, specifically in Germany.
Yes, the safest and surest economy in Europe is showing it’s first signs of weakness in years.
And it could get very bad, very quickly.
For example, Deutsche Bank (DB) has $2 trillion in assets. It’s the 11th largest bank in the world. It’s the biggest in Europe. And its shares are down 80% in the last five years. And they recently hit 30 year lows.
Depends who you ask.
If you ask Wolfgang Schauble, Germany’s finance minister, it’s nothing to worry about.
He says he has “no concern” about the increasingly pernicious problems at Deutsche Bank and others.
Sounds a lot like “contained” to me. Too much so.
If you ask anyone who understands the highly leveraged nature of modern mega-banks, you’ll get a much bigger answer.
There are trillions of dollars at risk in the banking system right now.
There’s an estimated $700 billion of debt due by oil companies. And with oil unable to stay above $30 a barrel, a big chunk of that $700 billion is at risk of getting written off.
There’s also the increasingly tenuous decline in the “junk bond” market too.
The junk bond market constitutes an estimated $1.8 trillion dollars. It’s shed 20% of it’s value in the last year and a half.
Billionaire investor Carl Icahn called the junk bond market a “keg of dynamite” a few weeks ago.
If it continues to slide, there will be hundreds of billions of write-offs there too.
And finally, something we’ve covered quite a bit, there’s more than $1 trillion in auto loans outstanding. An unhealthy share of those are “subprime” and “deep subprime.”
Basically, there are hundreds of billions of losses and write-offs ahead for the banking industry and it won’t take much to wipe them all out.
Now, back to Deutsche Bank.
It has $2 trillion in assets on the books.
It has less than $70 billion in capital.
So a 3.5% decline in its asset value would wipe away it’s capital and make it functionally insolvent.
A global recession could easily cause enough of these debts on the books and liabilities owed the bank to be a huge -- and potentially unmanageable -- problem.
The financial leaders may tell you it’s “contained” or there’s “no concern” about it.
If history is any guide, that’s precisely opposite what you should be doing.
What you’re witnessing is a potentially slow motion crisis unfolding and you better get prepared.