Seven more banks were closed last Friday (10/23/09) as the avalanche of bank failures this year reached 106, the most in any year since 181 collapsed in all of 1992, during the savings and loan crisis.
Last fall, it was the nation’s biggest banks that faltered, like Citibank and Bank of America, who had made bad bets on complicated, high-risk investments. Now, smaller banks are being undone by something more conventional – real estate, construction and industrial loans – that have gone upside down as developers abandon failing projects, and landlords can’t meet their loan payments. Small and mid-sized banks hold many of these loans and have been hurt more than big banks by the sinking commercial real estate market.
So why is this good for everyday investors? We’ll get to that in a moment.
Hundreds of these banks remain open even though they are as troubled as those that have been closed. The FDIC is closing banks slowly – partly to avoid panic and partly because finding buyers for bad banks is tough. Bank failures have cost the FDIC about $25 billion this year and are expected to cost $100 billion before it’s all over.
It’s Different Than Last Time
Compared to the last financial melt down during the savings and loan crisis, this cycle of bank failures has played out very differently. First, the raw numbers of failed banks is lower in this cycle but the asset sizes are much larger and the losses in bad debt are a significantly larger percentage of assets (about 25% in this cycle compared to 11% in the previous cycle).
So far, the bulk of the failed banks have been dealt with by the FDIC selling the entire bank to another bank (a merger, so to speak). In a merger by sale, the FDIC never takes ownership of the assets but merely pays the acquiring bank to take the bad assets since that is the less expensive way to deal with the problem.
So, again you’re thinking, why is this good for everyday investors? Answer: The Legacy Loan Program, also known as PPIP.
The Legacy Securities Public-Private Investment Program. (PPIP)
In July of this year, the US Treasury confirmed the launch of the Legacy Securities Public-Private Investment Program (PPIP). Under this program, the Treasury Dept will invest up to $30 billion of equity and debt to match funds established through private sector fund managers and private investors for the purpose of purchasing “legacy” real estate backed securities; in other words, the mortgage debt inherited from failed banks.
In Sept and Oct, the FDIC put together 2 large deals totaling $5.8 Billion in value based on residential mortgage and construction loans, which we believe to be the first of many such deals. We predict as many as 850 more of the smaller to mid-sized banks will fail and thus, there will be many more assets that the FDIC will have to deal with.
The Good News in the Bad News for Everyday Investors
The good news is that individual investors are being presented with a very unique opportunity – one which may not last long. That opportunity is to partner with eligible fund managers who are getting matching funds from the US Treasury to leverage their investment dollars. Through the PPIP, they can now buy the securities backed by commercial and residential real estate – that were originally rated as Triple A – for pennies on the dollar. In other words, these are solid investments with potentially huge ROI. Through investor partnership programs, such as one offered by self-made Billionaire entrepreneur, Bill Bartmann, even smaller investors can capitalize on this unique situation.
An Even Greater Investment Opportunity?
Perhaps the greatest investment opportunity lies in the current extraordinary volume of charged-off credit cards. Only about two dozen banks actually issue credit cards and they are the large banks we all know – Chase, Citi, BofA, Wells Fargo, and so on. The smaller banks that “issue” credit cards actually do it through the large banks and the small bank never owns the debt.
But these large banks are generating humongous volumes. Based on information from the Federal Reserve, in 2006, the banking industry pushed about $31 billion of charged-off credit cards into the market. That number had been relatively stable for more than 10 years and should pretty much represent the industry capacity. In 2008, the volume went to $59 billion, a 90% increase in two years. At this point the industry is stretched to the limit and the banks are beginning to saturate the network third party agencies. In 2009, the volume of credit card charge-offs is projected to be $105 billion, a 230% increase in 3 years!
It’s this extraordinary volume that makes the opportunity so large as the existing industry can in no way accommodate this volume. Thus, new investors have the opportunity to acquire loans at very attractive prices. In early 2008, prices for fresh charged-off credit cards would have been 10 to 12 cents on the dollar. Today the price is around 5 cents on the dollar.
So here’s the good news/bad news: The economy is not great. Unemployment is high. Bankruptcies are growing. Recovery will likely be slow. All those factors impact the ability to collect and recover on charged-off assets. Thus, the market price for these assets will continue to decline in response to the recovery challenge. All things being equal, I believe the profit opportunity is as great or greater today than ever.
America is on sale and word is getting out. Don’t be the last one to the party.
About the Author
Dave Stech is CEO of Purpose Built Investments. Prior to PBI, Dave early-retired three times as CEO/President of early-stage technology companies. Before that, he served in senior management with Kodak, where his teams launched the first disposable camera and the first digital postcard. Dave recently interviewed self-made Billionaire entrepreneur, Bill Bartmann, who became the 25th richest person in America during the last economic implosion, and is now teaching everyday investors how to capitalize on the current economic meltdown. To view Dave’s interview with Bill and learn more, visit http://www.BartmannBailoutRiches.com now.