Here’s the good news: the holes in the balance sheets of financial companies might not be bottomless. According to Amit Rajpal, an asset manager at London based hedge fund Marshall Wace, financial firms could only need another $1 trillion before they can recover from the collapse that started last year.
Rajpal, who manages the Marshall Wace Global Financials Fund from Hong Kong, gave his optimistic prediction to Bloomberg this week. “You’ve got weakness in credit, a very thin capital position; there’s no way to actively value these stocks until you get the right amount of capital in these businesses,” Rajpal said in an interview Jan. 20. “Until the governments see the light and provide common equity to these institutions, I don’t see financial stocks turning around.”
Why are we calling this good news? Isn’t another trillion dollars piled on top of the $920 billion or so raised by financial companies since the start of the crisis a huge number? Doesn’t it mean that the financials are still very, very troubled?
Well, yes. Of course. But you already knew all that. The reason we’re reading this as good news is that Rajpal thinks he has spotted a bottom. After nearly $1 trillion of new capital failed to rescue financial institutions, it was beginning to look as if financial firms had become black holes, able to consume all the capital in the world before they could regain their health.
Rajpal says part of the problem with financial stocks has been the structure of the government rescues. The common shareholders sit beneath the government’s preferred equity, which means the common stock could go to zero while the government continues to draw out cash through its promised dividend.
Companies including Citigroup Inc., Wells Fargo & Co. and Bank of America Corp. still need $50 billion each of common equity, said Rajpal, 35, a former global financials research head at Morgan Stanley. He made the assessment before the U.S. government on Jan. 16 said it would invest $20 billion in Bank of America and guarantee another $118 billion of its assets.
Financial institutions will be unable to tap more capital from sovereign wealth funds in China, the Middle East, Norway and Russia as those funds focus on shoring up domestic markets, Rajpal said. He described the U.S. government’s plan to rescue financial companies as an “abject failure.”
“Either the government should have bought out the weaker- quality assets from the banks to help improve their balance sheet quality, or they should have committed common equity to help improve their capitalisation,” he said. “What it has done is in between.”
Analysts don’t count preferred shares bought by the U.S. government in firms including Citigroup, Goldman Sachs Group Inc. and Wells Fargo as core Tier 1 capital, a key measure of banks’ financial strength which includes mainly common equity.
“It doesn’t provide confidence to common equity shareholders because the government is sitting above you,” Rajpal said. “The stock can go to zero and the government can still get its dividend.”