Denninger: The Banking System is Insolvent

From Karl Denninger:

Following up on the quick mention now that I have a story to cite from Amherst:

Cure rates for these distressed loans remain low. Amherst noted a near 0% cure rate of all loans in foreclosure, 0.8% for 90 plus days delinquent, 4.4% for 60 days delinquent and 26.5% for 30-day delinquencies. All told, Amherst expects 12.42% of units (from the 13.54% of properties delinquent and in foreclosure) to eventually liquidate.

Let's put some numbers on this.

There are roughly 125 million single-family homes in the US.

Of those, roughly 30% have no mortgage on them at all. This leaves 87.5 million single-family homes with mortgages.

Let us assume the average outstanding balance is $200,000 across the entire set and will take a 40% loss severity. This is less than S&P has estimated for subprime loans and only assumes a roughly 20% market deficiency in the home price (the rest is from legal, rehabilitation and marketing expenses.)

These numbers are, with a high degree of confidence (90%+) low - that is, losses will exceed these estimates, perhaps dramatically so. It is, for example, quite reasonable to believe that due to the concentration of defaults in higher-priced areas (e.g. California and Florida) that the average outstanding balance could be close to double that $200,000 value and the loss due to negative equity higher.

From this we can develop a "cocktail napkin" view of the losses to be taken in home mortgages for single-family homes (remember, this does not include condos, apartment buildings and similar "commercial" paper.)

$200,000 X 40% = $80,000 loss per foreclosure.

87.5 million homes with mortgages X 12.42% = 10,867,500 foreclosures.

10,867,500
x 80,000
=============
$869,400,000,000

or $869 billion in losses remaining in single-family mortgages alone.

What if the average outstanding is higher and negative equity greater than 20% (which is likely)?

Losses will almost certainly be well north of a trillion dollars.

The entire banking system and likely The Fed, given the quantity of Fannie and Freddie paper it has been and is "eating", is insolvent. These facts are why the government is lying - they're well-aware of the near-zero cure rates and know that these facts mean that the banking industry has nowhere near sufficient capital to withstand these losses without folding like a paper cup getting stomped on by an elephant.

(Remember that these numbers do not include any commercial real estate losses and we have found that banks are frequently over-stating their claimed values for these loans by 50% or more - as was seen with Colonial.)

It gets better. The FDIC has a negative balance both in its fund balance and the reserve ratio projected for the end of the quarter, which is, big surprise, tomorrow. Oh, and there is this pesky problem that the FDIC has - contrary to its mandate - been issuing bond guarantees for banks, so if and when that banking insolvency is recognized the FDIC will implode into a gravity well also, since it is on the hook for the entire deficiency of those bonds that were issued with its "guarantee" should they default.

Care to argue with the math, folks?

Interestingly, the link to the FDIC's negative balance in Denninger's second-to-final graf above is now dead.

Hmmmm....

[UPDATE 0835 EDST 30 SEPTEMBER 2009: Link is now live]

But if they were not in the proverbial deep kimchi, why would the FDIC be demanding that member banks pay their premiums up front and in advance through 2012?

***
Wednesday, September 30, 2009

WASHINGTON — Expecting the cost of bank failures to grow to about $100 billion over the next four years, federal regulators voted Tuesday to take the unprecedented step of requiring banks to prepay $45 billion in premiums to replenish an insurance fund that is expected to sink into deficit territory today.

The proposal by the board of the Federal Deposit Insurance Corp. to require early payments of premiums for 2010 to 2012 may take effect after a 30-day public comment period.

"What we are proposing to do is to tap the ample liquidity of the banking industry to improve our own liquidity position without borrowing from the Treasury," said Sheila Bair, the FDIC's chairwoman.

The proposal requires the banking industry "to step up" while spreading the financial hit to banks over a number of years, Bair said, adding that an insurance payment by the industry of $45 billion "is not going to constrain lending."

The FDIC is fully backed by the government, which means depositors' money is guaranteed up to $250,000 per account, but the agency's insurance fund has been depleted by a rash of bank failures that began in mid-2008.

Drained by 95 failures this year, the fund had $10.4 billion at the end of the second quarter, equivalent to 0.22 percent of insured deposits. The FDIC is required to rebuild the fund when that so-called reserve ratio falls below 1.15 percent.

Banks failures through 2013 could cost $100 billion, an increase from a $70 billion estimate in May, with half the expenses already incurred, said the FDIC, which projected that without additional special fees or increases in regular premiums, the insurance fund will become "significantly negative" next year and could remain in deficit until 2013...
***

Green shoots, boys and girls.

Just keep looking for those green shoots.

Careful who steps behind you, though, while you're searching....