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The Banks Stress Over the Stress Tests

Written By Brian Hicks

Posted April 23, 2009


stress test


After much debate about how stressful the stress tests really were, beginning tomorrow the results will start trickle into the markets.

Of course, that leaves the government walking a fine line between true transparency and the latest upturn in financial stocks.

Either way, we are sure to find out in some regard who exactly is teetering on the edge of the abyss. That’s the great unknown that has helped to keep the markets under pressure this week.

Here’s the latest skinny on how much stress these tests may reveal.

From the Wall Street Journal by Deborah Solomon and Damian Paletta entitled: Stress-Test Briefings For Lenders begin Friday

“Regulators will begin briefing banks Friday about how they fared in government-performed “stress tests,” giving lenders an opportunity to debate the findings before they’re made public a week later, according to government officials.

The discussions will signal to some banks whether they’ll need to seek additional capital, either from private investors or the Treasury Department.

The stress tests seek to measure a bank’s ability to continue lending under extreme economic conditions. To help shore up confidence in the banking sector, the government is expected to distinguish between banks that need more capital and those able to withstand a worse and prolonged economic downturn.

On Tuesday, Treasury Secretary Timothy Geithner said “the vast majority” of banks could be considered well-capitalized. But he also said the impact of the government’s efforts to ease the financial crisis so far had been “mixed.”

In the stress tests, regulators used some estimates of likely losses on loans that were tougher than observers had expected.

Under a more adverse scenario, which assumes a 10.3% unemployment rate at the end of 2010, banks would have to calculate two-year losses of up to 8.5% on their first-lien mortgage portfolios, 11% on home-equity lines of credit, 8% on commercial and industrial loans, 12% on commercial real-estate loans and 20% on credit-card portfolios, according to a confidential document the Federal Reserve gave banks in February that was viewed by The Wall Street Journal. Regulators are expected to have used other assumptions as well when measuring a bank’s strength.

Such scenarios could make banks with heavy exposures to these products appear weaker than expected.

“It’s bad news because it’s going to make the banks look worse off than people think,” said Paul Miller, a managing director and head of financial-institutions research at FBR Capital Markets.

The government plans to release on Friday an outline of how the tests were conducted, including the assumptions that regulators used to measure a firm’s health. On May 4, some results of the tests are expected to be made public, though it isn’t clear exactly how much information will be revealed.”

Pass or Fail?

Let me know what you think….

Pesronally, I think transparency is going out the window on this one….at least for the time being.

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