If you have been watching the evening news lately, perhaps you have noticed that the very large banks that were on the verge of collapse several months ago are suddenly showing large profits for the first quarter of 2009. If you read my January blog about all FDIC-insured banks having lost a collective 95 percent in earnings for the fiscal year ending October 31, 2009, you might have been surprised to see the reports this month about all the banks that have been “in trouble” suddenly showing substantial profits.
When I saw the “good news” a week or so ago, I wondered how many branches Bank of America (BofA) must have closed in order to generate $4.2 billion in profits and how many new loans JPMorgan Chase and Citigroup must have made in the first quarter of 2009. But I only had those thoughts for a split second before I realized there must be something deeper to the story. Could BofA, Chase, and Citigroup be playing fast and loose with their accounting? Maybe we had another Enron or Madoff story in the making.
What I discovered when I looked deeper was that these banks did not have “ordinary” revenues that generated profits, which would have been a good story. What they did have were a group of bankers and accountants trying to pull the wool over their investors’ and the public’s eyes — albeit using perfectly legal accounting methods.
In the case of BofA, part of its earnings were a result of the sale of shares of a Chinese bank they owned. The sale of the stock occurred early in January and netted BofA $2.8 billion in gains (extraordinary profits). That was probably a good way to convert their stock to cash and help the bank. Sounding confident and in-charge, BofA Chairman and Chief Executive Officer Ken Lewis went on television to discuss how strong the bank was and how well it had done during the quarter. The only thing BofA did during the quarter that was extraordinary, other than having some strong trading income from Merrill Lynch, was to sell an asset and realize profit on that sale. Nothing materially changed in the operations of the bank.
Bank of America wasn’t alone in its fuzzy accounting. Chase and Citigroup each showed a profit for the quarter as a result of a drop in their bond value. The accounting was perfectly legal, but doesn’t accurately reflect the real conditions at either of these banks.
The story has not been fully written yet on BofA or Citibank. Don’t assume that the better-than-expected earnings reports of last week (as a result of fuzzy accounting) mean that they can’t still fail. One only has to remember back to September 26, 2008 when 150-year-old Washington Mutual failed because depositors ran to withdraw their money; or when, two days later, Wachovia ceased to exist in its previous form. In two days nearly $2 trillion dollars in banks failed. Just because Bank of America is now the largest bank in the U.S., doesn’t mean it can’t be next.