Hard To Pick A Winner

Kevin Gale, Editor-in-Chief of the South Florida Business Journal, asks a very intelligent question in a recent article about the lawsuit that the FHFA filed against Bank of America and other large financial institutions: Who gets stuck with the tab? His answer is the US taxpayer, small business owners, or bank shareholders, "take your pick." Since the US is pumping money into the failed Fannie Mae and Freddie Mac (on whose behalf the FHFA is suing) like they were actually worth something, if the big banks like BofA defrauded Fannie and Freddie, then its those of us who actually pay federal income taxes who are being stuck with the losses suffered by those GSEs. On the other hand, by devoting income and capital to paying litigation expenses and reserving for (and, perhaps, ultimately paying) losses, the defendants have less to lend to small business owners, and many of the defendants have, according to Gale, already been criticized for retreating from small business lending. Gale also mentions the fact that such a retreat has been exacerbated by "knuckle wrapping" regulators who seem to be attempting not to manage risk, but to eliminate it. Thus, small business owners are losers, along with the big banks everyone loves to hate. Ultimately, however, the banks' shareholders stand to lose big as the expenses mount, income depletes, and losses are incurred. It's the problem that the Wall Street Journal's David Reilly today described as the "whack-a-mole" phenomenon. So while investors may want banks to find a way to write a check and put all of their mortgage woes behind them, the multifaceted nature of the threat means it isn't likely to happen. Rather, banks' legal battles will stretch over a period of years. That could prove a consistent drag on earnings, providing yet another challenge as banks face a lower-return future and a slowing economy. That grim reality needs to factor into any calculations of still-elusive "normalized" earnings. It's easy to bash big banks, and we often leap on to the dog pile, ourselves, because we always go for the cheap laugh and the easy way out. However, we also own mutual funds which invest in the stocks of some of those big banks, and in that respect we aren't any different than millions of Americans who, directly or indirectly, own pieces of the same pie, a pie that's getting sliced thinner. The only folks ultimately getting fat and happy are–you guessed it–trial lawyers on both sides of the table. Yes, I know: once again, I've proved myself to be a glass-half-full kind of guy.

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