Brainstorming Tuesday

1. That's the way the banks generated part of their enormous profits last quarter and would need to show hefty losses for this quarter but we can be sure that their book keeping will find ways to cook the books to their needs. Bottom line is that bank earnings can not be trusted and the Obama call for more transparency is a phony camouflage PR event.

Excerpt

Writedowns on Mortgage Servicing Make Even JPMorgan Vulnerable

Oct. 12 (Bloomberg) -- The four biggest U.S. banks by assets may have to take writedowns on $55 billion of mortgage- collection contracts after marking them up by $11 billion in the second quarter, casting a shadow over earnings.

Bank of America Corp., JPMorgan Chase & Co., Citigroup Inc. and Wells Fargo & Co. wrote up the value of the contracts, known as mortgage-servicing rights or MSRs, by 26 percent in the quarter as mortgage rates climbed by about 0.35 percentage point. Net gains on the contracts added more than $1 billion to Wells Fargo’s record earnings in the quarter and $1 billion to JPMorgan’s first-quarter profit.

Mortgage rates fell about 0.26 percentage point in the third quarter, according to Freddie Mac, and servicing costs are rising, meaning the four banks, which handle collections on more than $5.9 trillion of U.S. mortgages, may face writedowns.

“We’re very bearish on MSR valuations,” said Paul Miller, a banking analyst at FBR Capital Markets in Arlington, Virginia. “They are overvalued. There are higher costs associated with the servicing, and we’re very concerned about it.”

The four banks control 56 percent of the market for the contracts, according to Inside Mortgage Finance, a Bethesda, Maryland-based newsletter that has covered the industry since 1984. Servicers collect payments from borrowers and pass them on to mortgage lenders or investors, less fees. They also keep records, manage escrow accounts and contact delinquent debtors.

‘Accounting Game’

The value of the rights depends largely on the expected life of the mortgage, which ends when a borrower pays off the loan, refinances or defaults. When rates drop and more borrowers refinance, MSR values decline. Banks typically hedge those movements using interest-rate swaps and other derivatives.

Under U.S. accounting rules in place since 1995, banks are supposed to report the value of their mortgage-servicing rights on a fair-market basis, or roughly what they would fetch in a sale. A bank must record a loss whenever it sells MSRs for a price below where they’re marked on the books.

2. Bank earnings will have no upside momentum compared to the last quarter - except for Goldman probably ( still all very phony) but the overall picture going forward is deteriorating. The major part of last quarters 'positive' upside momentum in earnings came from banks as they were allowed to change the marking rules to their own liking.

3. A good analysis from Bill McLaren

Excerpt

LET’S LOOK AT THE S&P 500 INDEX DAILY CHART

Two weeks ago I indicated the selloff would stop around 1027 and it stopped at 1019. We didn’t believe there would be a top until after the 6^th of October. The index moved down into the 90 cycle indicating a rally but not another cycle up. Now our job is to look for some evidence this is now in a topping process. Please understand I am not looking for a big reversal in trend but a normal counter trend to consolidate the move up since March and possibly only the move since July. This could also set in with a large sideways pattern to consolidate. Since almost all high points and tops come from breaking to new highs and failing. If this rally can carry to a new high the trend will be at risk. Or if we can confirm a distribution of some sort prior to the new high a correction should start.

Today’s high was against the previous lower high and could set up a lower double top distribution pattern but the only evidence so far is the gap up and stopping at the price level of that high. One down day will not confirm that pattern there will need to be “follow through.” Volume is not bullish and the index overbalanced or exceeded the largest move down since the July low and that can also be a warning the trend may have completed. Since most world stock indexes gapped up yesterday on the fourth day up it did represent some sort of exhaustion but it is too early for me to conclude that has exhausted this move up and could just start a few days of consolidation. But if the index moves to a new high, that may be all to this rally. Also, there are one and two year cycles expiring this weekend and can be significant resistance. I believe a top is likely the next 5 trading days. The US Dollar Index may be the clue. But remember this trend does not top until 2010. A decline from here should be “normal” at 1/3 to 3/8 of the advance.