Investing Blog

The New York Times is doing an excellent job tracking the outflows under the $700 billion TARP program. What I find so interesting are the released Texas Ratios. The Texas Ratio shows us the amount of underperforming assets vs cash holdings and after seeing these numbers I can see just how leveraged and just how broke these banks really where.

First I wouldn’t ordinarily expect that any bank’s Texas ratio would be much higher than 10. The goal of fractional reserve banking is to always have 10% on reserve with a possible 90% lent out. I would have thought that banks wouldn’t have levered to the max of 10:1 and instead have an average ratio of around 6 as the difference between M1 and M2 (which can only be made by fractional reserve banking) is 1:6. Money is naturally leveraged.

After looking through the data you can see how things were far worse than most people could have thought. All of the larger banks, Citi, BAC, Wells Fargo and PNC were heavily levered to about 15:1, likely they all had similar alt-A and subprime holdings and also similar risk to reward investment strategies.

But as you move down the list things get more interesting. The smaller regional banks were so highly leveraged that it would take a drop of just 1.6% in the value of their assets to go bankrupt. That’s right, Texas Ratios of 60:1. Thats horrible.

So if Texas Ratios are 60:1 when considering nonperforming loans to cash, how poor must the numbers be if you include the amount of loans that are still performing? Research has suggested that 10% of people are in foreclosure or late on payments. Could the actual ratios be as high as 600:1?

Make your own opinions on this crisis. The NY Times did an excellent job showing all the data of where the money has been and the Texas ratio of the bank in question.

P.S. Why are we already committing or dishing out money when the next $350 Billion hasn’t even cleared yet?

Investing