Citigroup recently hosted a financial services conference in Napa, and it’s takeaways are anything but sunny. Citi says that the “overall tone was pessimistic” and that the “turn” will take longer than expected. Perhaps more importantly, Citi suggested that banks are “underestimating embedded losses on balance sheets.” Citi was particularly bearish on housing, which it thinks will require government intervention to fully recover:
Consensus was housing prices unlikely to stabilise until mid 2009 at the earliest. Many noted structural issues can’t be fixed without significant government intervention, which is unlikely until after the 2008 elections. One positive from our field trip was REO properties are moving quickly, but there are considerable inefficiencies in short sale activity.
Another area of concern for Citi is the way banks are appraising real estate loans. Citi thinks that banks are overestimating their value:
One of our main takeaways was realisation of flaws in banks’ appraisal processes, which creates risk that banks are overestimating the underlying value for problem real estate loans. The automated valuation models (AVM) appear to have significant flaws in trying appraise underlying home prices.
All of the above issues led Citi to conclude that banks still need to raise more capital:
General consensus was banks are underestimating their capital needs, and further capital raises are likely. Interestingly, we heard that ability to change management teams at banks by potential capital providers has been very difficult due to reluctance by regulators to put in new mgmt.