Shrinking FDIC Fund Signals More Economic Pain Ahead

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Some worrying commentary from FDIC chairman Sheila Bair indicating that the economy and housing market are still a long way from recovered and that the potential run up in financial shares of late could just as easily reverse course in the later half of this year. The remarks were prompted by the falling value of the FDIC insurance fund that protects more than $4.5 trillion in U.S. bank deposits, which fell to $10.4 billion at the end of June (and were $13.3 billion at the end of March), as the banking industry continues to struggle with bad loans. This was its lowest level since mid-1993, during the savings-and-loan crisis and makes it more likely that the government will have to charge banks another special fee to recapitalize its reserves (which means consumers will see also see higher bank fees as these are passed down). Officials could also consider borrowing up to $100 billion from the Treasury Department, but they have avoided this option so far.

The FDIC expects the number of banks failing or at risk of failing to remain “elevated,” even after the broader economy turns around. “Cleaning up balance sheets is a painful process that takes time,” Ms. Bair said. The agency said it had 416 banks on its “problem” list at the end of June, up from 305 at the end of March. Banks on the problem list are considered at higher risk of failure and face tougher regulatory scrutiny. The FDIC said assets of banks on the problem list totaled $299.8 billion—a figure that suggests that Citigroup Inc. and some of the country’s other largest banks aren’t on the list.

The housing market, which has shown signs of recovery lately with lower new home sale inventories and increase existing home resale prices may also be in for another turbulent winter if the FDIC’s prediction on banks increased expenses for bad loans.

The FDIC also said the industry posted an aggregate net loss of $3.7 billion in the second quarter. This is a reversal from the first quarter, when the banking industry turned a slight profit, and shows banks still have a long way to go to work through their problems. The FDIC also said borrowers are falling behind on loans at record levels and across most major loan categories. The number of loans at least 90 days past due climbed for a 13th consecutive quarter, while the percentage of loans at least three months overdue hit 4.35%, the highest level recorded since the FDIC began collecting this data 26 years ago. “Deteriorating loan quality is having the greatest impact on industry earnings as insured institutions continue to set aside reserves to cover loan losses,” Ms. Bair said. The FDIC said residential mortgage loans at least 90 days past due climbed 12.7% in the quarter. The number of construction and development loans at least three months behind increased 16.6%.

Despite record loss reserves, loans are souring faster than banks can sock away funds to cover potential losses. The FDIC said U.S. banks had only 63.5 cents in reserve for every dollar of loans at least 90 days past due at the end of the second quarter, the lowest level since the third quarter of 1991. Eighty-one banks have already failed so far this year, up from 25 in 2008. Bank failures this year have already cost the FDIC roughly $19 billion. The FDIC said the U.S. had 8,195 banks at the end of June.

Clearly some tough times are still in store and the summer stock market rally may give back a lot of it’s gains as winter approaches. So ensure you have the appropriate diversification and risk management strategies in place to protect your portfolio and retirement savings.
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What would happen to My Money if Citigroup or Bank of America were Nationalized
~ Dollar Cost Averaging Myths
~ Alternatives to the $700 billion financial bailout
~ Here we go again – Financial Crisis, chapter 13
~ Embrace fear for financial freedom

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