As with any test, the results are only meaningful if the process and proctor have unquestioned integrity. The proctors for the Bank Stress Test are none other than Treasury Secretary Tim Geithner and Fed chair Ben Bernanke. Why is a testing authority of the magnitude of FDIC, led by Sheila Bair, not more involved in the process? Ms. Bair is the one individual in our country with the greatest level of interaction with and understanding of the student body, that being the banking industry as a whole and individual banks specifically.

What does the FDIC, led by Ms. Bair, have to say about the upcoming Bank Stress Tests? The New York Post provides a CHILLING perspective:

The stress tests the government are about to conduct on some of the nation’s largest banks is being blasted by insiders at Sheila Bair’s Federal Deposit Insurance Corp., who say it’s a pointless exercise that’s more sizzle than steak.The FDIC’s basic beef with the stress test is that it is not a credible way to assess how much additional cash beaten-down banks will need to weather what many Wall Street experts predict will be more losses in the coming months.

The tests are conducted by the Treasury Department and the Federal Reserve on the nation’s 19 biggest banks, including behemoths Citigroup, Bank of America and JPMorgan Chase.It’s a sham,” one source told The Post, describing the test as an “open-book, take-home exam” that doesn’t actually work.

While Geithner, Bernanke, Obama et al have openly declared victory in saving the banking system, there is a very credible voice in Washington calling for a new round of Bank Stress Tests. Who has the gall to make such a demand?

Elizabeth Warren.

Warren stated as much in a Bloomberg interview I watched this morning. She is calling for new tests, not only for the 19 large money center banks but also the regional and community banks, as well. Why is Warren calling for this reexamination? Her primary concern currently centers on the pending and expected losses within the commercial real estate space through 2013.

When asked how her call for new tests has been received by Tim Geithner and team at Treasury, Warren succinctly used the term, “resistance.”

No surprise there . . . but also no transparency there, either.

LD

Perhaps I do not fully appreciate the benefits of the massive government injections of capital into our economy. Why? I view any short term benefit from the capital injections as merely covering for losses which are still embedded in the system. The bills associated with those losses, in terms of increased interest costs and principal writedowns, are yet to be paid.

Where are the losses? Well, the results of the Bank Stress Tests have been leaked and 10 of 19 banks will supposedly need more capital. The commercial real estate market is totally dependent on the government committing to 5 yr loans via the TALF. I view the rebound in the residential real estate market as mortgage mayhem, not mortgage magic. None other than the IMF continues to highlight that our economy has another $1 trillion plus in losses.

I will grant Obama and Bush and their respective administrations credit for succeeding to this point in what they were trying to accomplish. However, that success, in my opinion, only means that longer term costs will be steeper and longer term benefits will be further off as a result.

Nouriel Roubini and Matthew Richardson address these points in yesterday’s WSJ, “We Can’t Subsidize The Banks Forever.”

From my perch, I view Obama and team as indiscriminately allocating capital across too many programs. I am becoming somewhat concerned that Bernanke is wondering if they have put too many chips on the table.

Roubini and Richardson offer:

. . . stress tests aside, it is highly likely that some of these large banks will be insolvent, given the various estimates of aggregate losses. The government has got to come up with a plan to deal with these institutions that does not involve a bottomless pit of taxpayer money. This means it will have the unenviable tasks of managing the systemic risk resulting from the failure of these institutions and then managing it in receivership. But it will also mean transferring risk from taxpayers to creditors. This is fair: Metaphorically speaking, these are the guys who served alcohol to the banks just before they took off down the highway.

While the tone feels better, there is no doubt we still have challenges. Private enterprise’s interaction with Uncle Sam is one of the biggest challenges.

All this said, the government had a choice between immediate losses with excruciating pain or buying time with long term underperformance. They chose the latter.

We still have to pay the bill.

LD

As I write this, Bloomberg reports Bank of America is speculated to need another $10-20 billion in equity capital. BofA’s earnings were reported this morning at .44 earnings per share versus an expectation of approximately .03 earnings per share. Analysts are panning the earnings due to the propsects for ongoing increases in credit losses within BofA’s loan portfolio. BofA’s stock is down approximately 8% in early trading.

If BofA does need another $10-$20 billion in equity capital, where might it come from? In my opinion, in a non-public transferral of capital, those funds may come from JP Morgan and/or Goldman Sachs, and would actually be recycled TARP funds. Effectively, JPM and GS will merely be a conduit for increased government funds injected into BofA and Citigroup, as well. Remember JPM has $25 billion in TARP funds, Goldman has $10 billion. If BofA took $15 billion of these funds then Citi could receive $20 billion. What would JPM and GS receive in return? I would think these negotiations would be private and not released, although given that the capital provided is public money all information should be released.

The administration has released word that the focus of the Bank Stress Tests will be on the industry as a whole and not individual institutions. The FT reports, U.S. to Put Conditions on TARP Repayment. What are the conditions?

Strong banks will be allowed to repay bail-out funds they received from the US government but only if such a move passes a test to determine whether it is in the national economic interest, a senior administration official has told the Financial Times.

“Our general objective is going to be what is good for the system,” the senior official said. “We want the system to have enough capital.”

His comments come as Goldman Sachs, JPMorgan Chase and other relatively strong banks are pressing to be allowed to repay their bail-out funds. On Sunday, Lawrence Summers, President Barack Obama’s top economic adviser, told NBC’s Meet the Press that repayments could eventually help the government provide further resources to help the sector. Such a move could also allow healthier institutions to differentiate themselves from weaker banks and free them from constraints on executive pay, and other activities, that come with bail-out money.

The most restrictive covenant of holding TARP funds centers on compensation limits. How JPM and GS negotiate their way out of that noose is the big carrot for playing ball with Uncle Sam.

We also should not forget that every banking institution on Wall Street has issued FDIC-backed debt. That support has allowed the banks to save themselves 3-4% on the cost of funds and is another version of the private profit vs. public risk scenario.

Despite statements from Obama and team, the political game plan of buying time and spreading the banking risks across the taxpaying public is in place. I do not see that changing at this juncture. The “games” being played via the Bank Stress Tests will likely be another version of Games of Chance: TALF, PPIP, TARP, FDIC, FASB.

LD

As Bloomberg reports, Bank Regulators Clash Over U.S. Stress-Tests Endgame. Secretary Geithner clearly was trying to buy time when he proposed the Bank Stress Test model. The day of reckoning will soon be upon us. The administration will release the model used on April 24 and the results on May 4th. However, there are enormous conflicts within the administration and the regulatory community as to how to release the information and how much information to release.

As Bloomberg highlights,

The U.S. Treasury and financial regulators are clashing with each other over how to disclose results from the stress tests of 19 U.S. banks, with some officials concerned at potential damage to weaker institutions.

With a May 4 deadline approaching, there is no set plan for how much information to release, how to categorize the results or who should make the announcements, people familiar with the matter said. While the Office of the Comptroller of the Currency and other regulators want few details about the assessments to be publicized, the Treasury is pushing for broader disclosure.

The disarray highlights what threatens to be a lose-lose situation for Treasury Secretary Timothy Geithner: If all the banks pass, the tests’ credibility will be questioned, and if some banks get failing grades and are forced to accept more government capital and oversight, they may be punished by investors and customers.

“There are plenty of ways to go wrong here,” said Wayne Abernathy, executive vice president of the American Bankers Association in Washington. “It might have sounded good at the time, but now looking back, it has far more risk than benefit.”

What will come of this? The pressure from all corners is increasing on Geithner. Can he snatch victory from what may appear to be a lose-lose situation? Can he somehow or other get the results forestalled and maintain credibility? Can he keep the various constituencies placated? Truly, he needs to “thread the needle.”

Listen to NQR’s Sense on Cents with Larry Doyle this evening from 8-9 p.m. as I discuss how I think Secretary Geithner will try to thread the needle.

LD

One of my favorite scenes in the movie occurs after the boys make the big heist. Immediately, the word is put out to keep your mouths shut and no indications of newfound wealth.

Back to reality. In terms of “putting the fix” into the world of our major money center banks, isn’t the relaxation of the mark-to- market the “newfound wealth”? Isn’t the “keep your mouths shut” the equivalent of the Treasury telling the banks not to comment on results of the Bank Stress Test? Speaking of the Bank Stress Tests, Bloomberg reports:

The U.S. Federal Reserve has told Goldman Sachs Group Inc., Citigroup Inc. and other banks to keep mum on the results of “stress tests” that will gauge their ability to weather the recession, people familiar with the matter said.

The Fed wants to ensure that the report cards don’t leak during earnings conference calls scheduled for this month. Such a scenario might push stock prices lower for banks perceived as weak and interfere with the government’s plan to release the results in an orderly fashion later this month.

Clearly the Fed and Treasury are trying to keep their “boys” quiet and lay low while the real regulators of the market, that being honest investors, are walking the beat.

If any of the boys talk, then the leaders of the family won’t be able to coordinate the stories and hoodwink the public.

Whatever happened to, “as long as you tell the truth, you don’t have to worry about having a bad memory”?

It seems we are operating much more in the realm of, “well, I can tell you but . . . ”

The Goodfellas: Henry Hill, Jimmy Conway, Paul Cicero, and Tommy DeVito

Henry . . . Jimmy . . . Paulie . . . Tommy . . .

Please let me know who in our government and world of finance are most appropriate to play each of these individuals? Let’s have some fun.