Banks may be reaping record profits thanks to years of favorable emergency lending programs, but there are lots of dangers on the horizon for them. For one, there’s the possibility that investors may aim to put back hundreds of billions of dollars in soured mortgages on them. For another, there are all the new regulatory requirements under Dodd-Frank with which they are actually resigned to complying. And finally, there are the additional layer of rules through the Basel III accords, which will force the banks to raise additional capital.
The top 35 US banks will be short of between $100 billion and $150 billion in equity capital after the new Basel III global bank regulations are imposed, with 90 percent of the shortfall concentrated in the biggest six banks, according to Barclays Capital.
The BarCap study assumes the banks will need to hold top quality capital equal to 8 percent of their total assets, adjusted for risk.
This 8 percent tier one capital ratio, a key measure of bank strength, provides a one point cushion against falling below the effective global minimum of 7 percent set in September by the Basel Committee on Banking Supervision.
If the put-back apocalypse comes with a vengeance, banks are going to need this capital and a whole lot more.
But while they have accepted the new realities of the financial landscape in a few cases, the banking lobby still wants to resist other regulations, including one of the most important.
A provision of the Dodd-Frank financial reform law that is often overlooked is one requiring lenders to hold onto a portion of risky loans that they make. This addresses a key problem that contributed to the country’s economic meltdown, which was the ability for subprime lenders to securitize and sell off an entire loan, divorcing themselves from the risk of mortgage default [...]
Dodd-Frank requires that lenders retain five percent of every loan on their books, so that they are not completely separated from default risk. McClatchy reports that the banks are trying to quietly nix that part of the law.
Hilariously, one of the types of loans the banks want to exempt from risk retention are the interest-only loans that were among the bad mortgage products which quickly got borrowers underwater.
I don’t think there is a more important provision from Dodd-Frank to keep strong, at least from the perspective of homeowners. The banks and mortgage brokers who originated terrible loans during the bubble did so knowing full well they would not have to absorb the costs of default, because they planned to pass them on as mortgage-backed securities to investors. This led to a complete abandoning of underwriting standards, with loans given out to anyone with a pulse. Risk retention would put skin in the game of originators and make them think twice about ever engaging in such tactics again.
Amusingly enough, if the investors get their way, the big banks would retain all the risk from mortgage losses anyway. So even their insulation scheme doesn’t look foolproof. Better keep raising that capital.
