The Credit Crunch Is Far From Over

From the WSJ:

According to the Federal Deposit Insurance Corp., $45.4 billion of the $631.8 billion in construction loans outstanding at the end of the first quarter were delinquent. When banks announce second-quarter results in coming weeks, they are expected to report sharp increases in loans that builders can't repay. Banks are also facing intensifying pressure from federal and state regulators to deal with the problem loans on their books.

That's 7.1% of loans that are delinquent. That's shocking. And downright scary.

Nearly one in three of the banks analyzed -- or 2,182 -- had construction-loan portfolios that exceeded 100% of their total risk-based capital, a red flag to regulators, although it doesn't mean the bank is in danger of failing. Risk-based capital is a cushion that banks can dig into to cover losses.

Actually, it's obvious these ratios weren't a red flag to regulators. Why? Because 1/3 of banks are in this position. Regulators were obviously not paying attention to anything that was happening.

Over the next few quarters, banks are expected to begin recording much larger losses. In 2007 and the first quarter of this year, U.S. banks wrote down just 0.7% of their residential construction and land assets as bad debt, according to Zelman & Associates, a research firm. Over the next five years that figure could rise to 10% and 26%, which would amount to about $65 billion to $165 billion, Zelman projects.

To all you jackasses who are recommending that people go long financials right now, does the above paragraph change your opinion somewhat? We're looking at additional writedowns of up to $165 billion. Is that an environment where stocks increase or decrease guys?

During the housing boom, many small and regional banks doubled down on construction loans because they were largely shut out of the home mortgage market dominated by large originators. But now the banks' difficulties are threatening to sharply shrink the home-building industry. Credit Suisse analyst Dan Oppenheim estimates that as many as 50% of the closely held builders won't survive because of the tightening lending environment and housing downturn.

In an effort to prove they are just as stupid and blind to risk as the big guys, the little guys went running into an area of growth that was stimulated by record low interest rates, never really thinking that borrowers would have to pay back loans.

Some community banks are bristling under the regulatory pressure. "The federal government is being too reactionary," says Damian Kassab, chief executive of Michigan-based Warren Bank, which reported that 47% of its construction loans are delinquent. "They want to see it done as quickly as possible. I say 'can't we just relax, take a deep breath and work with the borrowers.'"

That's right -- because they banks have done such a good job of handling this themselves.