The Shady Side of Banking

The following separate public complaints, legislative investigation and media reports about banking activities go as high up as the Federal Reserve Bank. On first impression they certainly show a dubious side to banking. What is demonstrated by these banking issues are questionable practices that may constitute extortion of money from tax payers, participation in conflict of interest, and violation of securities law all without serious repercussion.

Complaint 1: BofA shifting derivatives to FDIC insured accounts

This was reported by Bloomberg and highlighted by The Daily Bail on October 18th, 2011. Derivatives are the same type of financial instruments that caused the financial crisis of 2008; they are risky assets. To protect the bank from this risk the assets are claimed to have been moved to accounts that the Federal Depository Insurance Corporation insures. This is the same insurer that protects savings and checking accounts and is financing by the government. The complaint is that Bank of America is leaning on the U.S. Government, and hence U.S. Taxpayers, to hedge its risky decisions.

Complaint 2: Federal Reserve financing foreign governments

The Federal Reserve Bank is supposed to be the U.S. Central bank, not the global central bank or 'socialism for the wealthy'. It's primary mandate is portrayed to be the inflationary and economic concerns of the U.S. People, however  a legislative audit of the Federal Reserve Bank show $16 trillion in additional previously undisclosed liabilities, an amount not evident on its 'selected liabilities'  The fact these loans were not openly disclosed seems a little strange since the Federal Reserve Balance Sheet gives the impression of being complete, the Wall Street Journal does not show it on one of its versions of the Fed Balance sheet, and according to Senator Sanders of Vermont, a reasonable suspicion of conflict of interest occurs when banking officials receiving loans also serve the Federal Reserve Bank. The following video elaborates on this issue.

Complaint 3: JP Morgan Chase manipulating silver price

This particular concern has been spearheaded by Max Kesier of the Keiser Report on Russian Television. The claim, as illustrated in the video below is that JP Morgan Chase & Co. (JPM) practiced naked short selling, a trading method in which shares not owned are traded, with the aim of price manipulation.  A congressional hearing also took place in regard to this.

Complaint 4: Banks using loan loss reserves to report profits

This is a recent concern during Q3 2011 earnings season in reference to Citi Group in particular. NDTV describes how Citigroup earned 74 percent in Q3 using loan loss reserves to offset bad loan expenses. The accounting basis for this is also described in an October 17th, 2011 Moneycation Financial News reference to the Economic Review.

Where Does the FOMC Financing Trail Lead

Many investors hold the belief that Federal Reserve Bank asset repurchases implemented by the Federal Open Market Committee (FOMC) are intended to directly elevate asset prices via open market operations. These open market operations purchase financial securities such as 10 year Treasury Bonds and other financial instruments in large scale. Indeed, there is evidence to support rising asset values, the  price of gold has risen tremendously, commodities such as oil have risen and so have stocks. That is,  at least in the short run these assets have experienced a tremendous rally despite relatively low volume in the stock market, and what seems to be a declining relative strength index and rate of change.

Several news media publications have reported on a statement made by Federal Reserve Chairman Benjamin Bernanke, in a Washington Post publication on November 4, 2010. This statement asserted the Federal Reserve Bank's intention to increase asset prices and money supply. However, semantically, the word 'should' in the statement 'help us fulfill that obligation' is not supportive nor synonymous with the economic reality, and doesn't seem to be a vote of confidence. Finances, market performance and monetary policy are much more than just semantics however, and the facts don't lie, just the interpretation and presentation of those facts.

So what exactly are the facts? And where does the FOMC cash fund trail lead? It all depends on what one is trying to find out. If one is seeking to discover an objective outcome then as many facts should be looked at to create what would be a viable economic snapshot. In terms of market performance, FOMC lowers treasury yields via a higher demand stimulating a possible aversion to bonds for investment elsewhere. On November 4, 2010, 10 year bond yields dropped 5.15 percent according to MarketWatch. So when the $600 billion FOMC financing kicks in, which in market psychology it already has, which markets show clear trends that are supported by predictable causal events and how strong are those correlations in terms of relevance and influence?

There has clearly been a bullish trend in equity markets, largely attributed to the liquidity made possible by the Federal Reserve Bank and this trend is expected to continue by many including the Highview Financial Group in a fall 2010 report. The argument is when money flows into banks, it necessarily follows banks will want to do something with that money. That is a fair assumption, but what investment banks do with their newly acquired bond sale revenue is up to them and not necessarily the Federal Reserve.

With official unemployment near 10 percent, banking confidence in consumers may not yield a low risk, high return scenario so that leaves emerging markets, commercial lending, inter-bank swaps and a range of transactions that seem intended to benefit Wall Street more than Main Street. The hope is all the benefits will spread around, stimulate investment and trickle down for increased consumer spending so the economy at large will benefit as well. Seems more twice removed than primary purpose. However, with computerized research and trading, extra cash does lead to the logical hypothesis that some of that money will be invested in businesses that are doing well thereby raising equity prices and the potential for economic growth. After that becomes price in to the market risk naturally rises. The wealth affect in theory then transfers to businesses, and the question becomes, what do they really do with it?

 Sources: 

1. http://wapo.st/cnFIGO (Washington Post)
2. http://bit.ly/9nnFIl (Highview Financial Group)
3. http://bit.ly/aDyokU (Federal Reserve Board)
4. http://bit.ly/9DrzS3 (Zero Hedge)
5. http://bit.ly/2hUXD3 (MarketWatch)

How to Read Federal Reserve Reports to Guide Your Investment Decisions

Federal Reserve reports and research can guide investment decisions by providing useful economic data reflective of business, market , commercial and economic conditions. The U.S. Federal Reserve Bank or FED for short is the semi-private national central bank of the United States that both gathers and releases economic data. This data can be found at the Federal Reserve website, and the websites of the Federal Reserve Regional Banks.

Federal Reserve reports include a variety of financial and economic information related to the banking industry, the economy as a whole and aspects of the economy that help investors uncover investments insights, fundamental data, and economic patterns relevant to investment decision making.

Types of Federal Reserve reports

The types of Federal Reserve reports include key data such as current and historical statistical releases, survey data, spreadsheets, industrial manufacturing information, research on possible future economic scenarios, and emphasis on national banking research, records and analysis.

Federal Reserve reports may also provide pertinent information on banking legislation and policies that can have an impact on businesses and/or banks. Each Federal Reserve report contains information on different parts of the economy that specify recorded variables that can help guide an investment decision. For example Federal Reserve reports include numbers on economic activity, production, employment, cash flow which can tell a reader of the report what has happened to that aspect of the economy over time and/or for a particular time period.

This data can also be further analyzed via statistical software to establish additional economic relationships for investment purposes. Samples and examples of Federal Reserve reports to guide your investment decision are listed below:

• Industrial production and capacity utilization
• Consumer credit outstanding
• Aggregate reserves of depository institutions
• Economic analysis studies
• Banking practices involving customers
• Federal Reserve letters

Each Federal Reserve report covers an economic or banking topic that is relevant to investors because the information in the Federal Reserve reports may reveal trends, financial events, probabilities and forecasts that could serve as financial indicators. In other words and for example, the Federal Reserve report on industrial production in July through September 2009 indicates an increase of 2.8%.

The capacity utilization chart shows how much of the industrial sector’s productive ability is being used which may be important to investors interested in putting money in industry where manufacturing and capacity utilization have a pronounced affect on businesses. However, industrial production and capacity utilization reports may also demonstrate the overall economic climate which is also of relevance to investing.

How to read and understand Federal Reserve reports

Each U.S. Federal Reserve Bank report may have a different format, topic, and measurement methodology. For example, one report may be a written statement of a Federal Reserve requirement whereas another may be a spreadsheet of historical numbers. Understanding and reading Federal Reserve reports involves 1) knowing what you’re looking for, 2) reading the measurement technique used in the report if any, 3) assessing the usefulness and applicability of the report to a specific investment and 4) accurately interpreting the data in terms of the investment(s). This process may take some time and practice but is an essential aspect of investment research.

To illustrate the above steps, consider the example of Mr. Bacchus who is interested in investing in Bank of America but is not sure whether or not that is a good idea. As part of his investment research Mr. Bacchus decides to study Federal Reserve reports to help with his investment decision. He wants to find out 1) if the bank has good future earnings prospects, 2) what the business and regulatory climate in which the bank will operate is and 3) information on the banks customers in terms of cyclical economic trends.

To find out this items Mr. Bacchus visits the Surveys & Reports section of the Federal Reserve website in addition to the Banking information and regulation section. Within these sections he determines some reports are more useful than others and decides to read the latest Bank holding Performance Report for Bank of America Corporation. This report gives Mr. Bacchus a wealth of information in 27 pages with which he determines the data is mostly quantitative and includes financial statements, performance ratios, derivatives and off balance sheet transactions, loan data and more.

Mr. Bacchus has now achieved steps 1-3 and must now complete step 4 and accurately interpret the data. Mr. Bacchus decides to focus on Derivatives and Off-Balance Sheet Transactions. Bacchus discovers that off balance sheet loans made by the bank are the lowest level in 4 consecutive years, and interest rate swaps are the highest in 4 years.

From this information Mr. Bacchus determines Bank of America Corporation is heavily hedging against the performance of its non-swap revenue cash flow indicating the bank may fear inadequate performance of other banking products. Since off balance sheet loans are at a 4 year low this helps validate Mr. Bacchus’ belief and leads him to suspect the bank is pursuing a more conservative and defensive posture than aggressive growth approach.

Whether or not Mr. Bacchus’ interpretation is correct and how he applies his understanding of the report to his investment decision is Mr. Bacchus’ concern; what he has done however, is locate, obtain, distinguish and interpret a Federal Reserve report.