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Stage Two Stress Test
Interesting developments to come - See what made the cut...

Stage Two Stress Test Stage Two Stress Test

The Federal Reserve will announce stage two results of stress tests on 18 of the nations largest banks on March 14, a move to insure the banks have enough capital to withstand a deep recession in which the unemployment rate rises to 12%, equity prices experience a 50% drop in value compared to Q3 2012 and housing prices fall 20% by year end 2014. Shares of these banks could experience wide volatility swings over the upcoming trading sessions into the new trading week.

In a conference call with reporters, a Fed official said that the severely adverse scenario represents a financial calamity of greater magnitude than any two-year period in the last 100 years except for the Great Depression. The Fed said in its release, the biggest sources of losses are those “on the accrual loan portfolios and trading and counterparty losses from the global market shock. Together, these two account for nearly 90% of the projected losses” for the 18 banks under the severely adverse scenario. “The nation’s largest bank holding companies have continued to improve their ability to withstand an extremely adverse hypothetical economic scenario and are collectively in a much stronger capital position than before the financial crisis,” the central bank said in a press release. Any bank whose capital distribution plans were rejected by the Fed on March 7 will have an opportunity to privately resubmit a less ambitious proposal to the Fed on March 14. Banks that had their preliminary plans tentatively approved by the Fed on March 7 face a tough decision - disclose their results now or wait until they receive final approval on March 14 - as the Fed would prefer. Or, do the banks believe the Securities and Exchange Commission disclosure laws over-ride their decision? Public disclosure of preliminary approval could indicate that the bank is healthy in the eyes of the central bank. The disclosure of approval by the Fed could come in the form of an SEC filing known as an 8K, indicating that there is a material change at the company. As one bank announces their disclosure, similar filings could be released from other banks with preliminary approval. The silent banks, or those who failed preliminary stress tests from the fed could lead investors to interpret their silence as indicating that they have to resubmit their capital plans. The disclosure results is a return to a classic clash between Fed secrecy and SEC transparency.

According to a report, Fed officials refused to accommodate demands from some large U.S. banks for a one-day release of results and remain at odds over with them the two-day scheduled for the release for the stress tests. Depending on how the banks score on the stress test will determine the amount of dividends and stock buybacks each institution will be permitted to return to shareholders, by the Fed.

The Fed’s March 14 Comprehensive Capital Analysis and Review will be a detailed stress test that incorporates forward looking capital decisions of bank managers and requires financial institutions to meet specific criteria to pass. The same so-called severely adverse scenario applies to both tests consisting of 26 variables - ranging from interest rates to stock and home-price indexes - which subjects the loan and securities portfolios of banks with the shocks of a recession and soaring unemployment. Banks would have to explain how they would change through a baseline, adverse and severely adverse scenario.

According to data released by the Fed, Ally Financial Inc. - the auto lender majority-owned by U.S. taxpayers - fell below a 5% Tier 1 common ratio, a regulatory minimum and measure of financial strength. Of the 18 banks participating The Bank of New York Mellon Corporation (BK) was the best performing bank with a capital ratio of 13.2%. Citigroup Inc. recorded tier 1 common capital ratio 8.3%. Wells Fargo & Company recorded tier 1 common capital ratio of 7%. Bank of America Corporation recorded tier 1 common capital ratio of 6.8%. JPMorgan recorded tier 1 common capital ratio of 6.3%. Goldman Sachs Group, Inc. recorded tier 1 common capital ratio of 5.8%. Morgan Stanley recorded tier 1 common capital ratio of 5.7%. PNC Financial Services Group, found that its minimum Tier 1 common capital ratio would be lower than the Fed's projection and that its cumulative losses would be higher than the regulator's numbers.


Dow Jones Industrial Average Annual Trend Dow Jones Industrial Average Annual Trend

So the Dow Jones Industrial Average (DJIA) hit an all-time high, a great psychological number - a milestone. What does this mean for the overall market - investors feel confident, new investors are dabbling in the markets. Main Street America, how are they affected by the gain in the Dow? How are big businesses really doing, do investors feel they are getting in at a good share price or is the market getting toppy? Pull up a one year chart for the Dow. Chart readers are in a tough predicament here. Current position of the Dow on the one year chart when you view history appears confusing - Toppy, ready to flip and dive? - Dive and fly, prepped for a backfill then ready for another run into yet higher territory? - Flatlined and hold in current range, yes even this is possible. What is going on with the sequestration? DJIA doesn't appear to care. The Dow does in fact react to good or bad, economic data. Data gives investors, or they are led to believe that, conditions are good, bad, or indifferent. Either investors are happy or disappointed in data released and the Dow will reflect their emotions. Investors have no problem voicing their feelings of how things are 'heading' in the economy, either optimistic or pessimistic. Is this the reflection Main Street America feels, slow and unsteady as the economic recovery may be, they remain optimistic.

When discussing getting back stocks or increasing current positions, investors are getting the word from advisors to 'go easy', 'be cautious'. Remember we all look at the same chart, maybe different chart provider but the chart says the same thing. Where do we go from here? Investors are told to take the defensive approach. Potentially the safest place for investors would be day trading as long as they can maintain discipline. No overnight holds. No risk from economic data crushing a day trader by holding an overnight position - holding an open position overnight is not part of day trading. It just doesn't work together.

As the Dow continues to climb, fall or flatline, investors and day traders will be following the trend. For those new investors, should the dice roll in their favor for a position of their choice, the winnings will turn back into the economy at some point. The positive results will flow money back into the economy - businesses will thrive and employment lines will grow shorter. And those companies who are part of the Dow, presumably they will be doing better as well as the money is flowing back into the economy.

So what is the next psychological level for the Dow? Are investors and day traders on Wall Street helping to improve the economy, by bidding up the stocks on the Dow, higher returns, will follow. As the Dow continues to climb, will we see economic recovery follow behind?

As investors listen to the diversion recommendation from advisors or brokers, they are not sure of where the trend is heading right now. Thats the safe bet at the moment. Which ones are going to jump first, we'll see, in days and weeks to come.



March 11, 2013


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