Banking on trouble

Although Macro Man has generally subscribed to the idea that this is an orthodox market correction in developed markets (albeit in context of substantial duress in emerging markets, ala 1997-98), he has to confess that there are pockets of weakness that worry him.

The negative impact of oil on the energy sector has been well documented, with a concomitant impact on the equity and debt of relevant firms (with some spill-over into broader markets.)   Macro Man has long thought there there would be payback and more through a boost to real household incomes and a consequent uptick in spending.  However, both the official data and anecdotal reports from the Apples and Amazons of the world suggest that this boost continues to remain M.I.A.

Another source of concern is the price action in financials on both sides of the Atlantic.  Obviously the decline in oil has an impact here too,  with US banks on the hook for billions of dollars in loans to the oil and gas sector.  No, it's not as big as the real estate exposure was a decade ago, but it will still hurt if there are a wave of defaults.   As for Europe, plus ca change, plus c'est la meme chose.

Both the BKX and SX7E are in bear market territory, with the pace of decline over the last three months fairly troubling.   It's not like you can just blame it on broad weakness, either....banks in America and Europe have both handily underperformed the broad index, with acute declines so far this year.

Obviously DB is a name that has caught people's attention; the bank has long been a concern given the size and opacity of its balance sheet, and recent price action is looking suspiciously like the sort of death spiral that we saw all too often in 2008.  That being said, it's not even the worst performer in Germany (that survived) since the onset of the crisis.  Macro Man looked at data from 10 large Eurozone banks; as you can see, not a one of them is priced higher than they were at the end of 2007.

This is quite a contrast to their US counterparts; your author looked at 7 large US banks, which bifurcate neatly into "Euro style" banks and those that....aren't.

What's immediately apparent from these charts is that Macro Man had forgotten how nasty things got in 2011-12 for US banks (though not European ones.)  What's interesting to observe, though, is that despite criticisms over the years that Eurozone banks haven't done enough to de-lever, book values remain lower than before the crisis.  (Of course,  book value for banks is something of an ephemeral concept, given that it entails heroic assumptions of loans and illiquid securities being marked correctly.)

In this, US banks could not be more different from their Euro counterparts; book value has grown steadily since troughing in 2009.

 Note that these indices are no cap-weighted, so while the overall level may not represent the aggregate change in book value, generally speaking the relative trends are pretty accurate.  While price to book levels for banks on both sides of the Atlantic, one does wonder how accurate those book values may be....and how much room there is to decline.  While there are a number of reasons to expect that 2008 will in no way repeat itself, that still doesn't preclude the idea that some of these institutions are banking on trouble.   The issues with EZ banks are well known; Macro Man has to admit, however, that seeing the apparent build up in US banks' book values forces him to recall that that which can go up can also come back down.