Something here does not make sense. The majority of the banks are scared stiff becuase their share price has tumbled - How does a negative share price affect your ability to conduct business? Surely the funds that were raised from the equity sale is available and in the bank - If the stock is $50 or $5 how does that affect the day to day operation? Any ideas?
hmmm, i would say that the debt to equity gets destroyed, right? since equity in that ratio is market based, a higher d/e could trigger problems, convenants, etc… also, the lower your market cap, the harder it is to issue new equity. I mean look at the MS issue right now. They will have to raise more maybe, and that will be dilutive. anyone else?
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- Can’t have negative share prices. They go to 0 and then it’s game over. 2) Their share price has tumbled because they might well be insolvent or close not the other way around. 3) Retained equity is part of long-term capital requirements and it’s retained equity getting killed. RE and MV of equity should have something to do with each other.
It’s “reflexivity” as Soros puts it. Not a low market cap per se, but a sharp decline in stock price affects the bonuses and comp paid to the bankers- the banks most important asset. A share price decline will make it more likely that top bankers will leave. Even if the bank is well capitalized it’s all a trust game so a declining share price can be a negative signal to counterparties. I don’t cover FS so I don’t know if mkt cap versus bv of equity goes into their capital requirement tests, but when you are starting so leveraged already any detriment to your equity or asset values is a killer.
My understanding (which is a bit weak really) is that under Basle II the amount you can lend depends on your share price in some manner. It seems to me from a distance that Basle II has caused a lot of the lending problems as people actually understood Basle I and had faith in it. I’d be interest to know more about this if anyone else has an opinion (i.e. have I made this up completely?)
Whilst this as initially posted as an attempt to understand the banks balance sheet , the principal would stand for all companies and not just banks… Does anyone on the forum know ?
Falling share prices increase the cost of equity capital, and also can increase the cost of debit capital if debt covenants are broken (ie. debt to equity as mentioned above). For partners or employees with compensation tied to share prices, their compensation automatically falls. So the cost of equity / debt are increasing, the employees’ compensation decreasing, and most likely the interest payments are increasing (if debt covenants are triggered), earnings are lowered and the company is financially weaker. The change in price over the long term can be used to gauge if this is a good investment. A falling share price reflects negative investor confidence and pessimism that the company will actually be able to grow and share wealth creation in the future.
joey122 Wrote: ------------------------------------------------------- > Whilst this as initially posted as an attempt to > understand the banks balance sheet , the principal > would stand for all companies and not just > banks… > > Does anyone on the forum know ? Basel II and capital requirements only apply to banks.
JoeyDVivre Wrote: ------------------------------------------------------- > joey122 Wrote: > -------------------------------------------------- > ----- > > Whilst this as initially posted as an attempt > to > > understand the banks balance sheet , the > principal > > would stand for all companies and not just > > banks… > > > > Does anyone on the forum know ? > > > Basel II and capital requirements only apply to > banks. So banks make loans based on their MarketCap? s that what you re saying? I find that difficult to believe because this is a very volatile number… Put another way are you saying the having a larger MarketCap means you can lend out more money?
Adding to above, I think debt ratings agencies use models that use MVE as an input. Lower MVE (or some ratio involving it) leads to lower rating whicj eads to higher capital requirments. In similar vein, Altman’s Z-score and Zeta models for predicting possible bankruptcies have MVE/Total Assets as an input. In the end, I guess it boils down to leverage.
joey122 Wrote: ------------------------------------------------------- > JoeyDVivre Wrote: > -------------------------------------------------- > ----- > > joey122 Wrote: > > > -------------------------------------------------- > > > ----- > > > Whilst this as initially posted as an attempt > > to > > > understand the banks balance sheet , the > > principal > > > would stand for all companies and not just > > > banks… > > > > > > Does anyone on the forum know ? > > > > > > Basel II and capital requirements only apply to > > banks. > > So banks make loans based on their MarketCap? s > that what you re saying? > No, I specifically didn’t say that. Read above again. > I find that difficult to believe because this is a > very volatile number… > > Put another way are you saying the having a larger > MarketCap means you can lend out more money? I’m saying if your retained equity is big you can lend out more money. Your MV and your RE are supposed to have something to do with each other, right? Maybe not. It used to. Now the accountants have messed it all up.
hold on one sec, papi: AMZN has had a massive market cap in its past and THEY HAVE NO retained earnings, instead they got accumulated deficit!!
In theory, at least some market cap comes from discounted expected earnings for the future, so it’s possible to have retained earnings of zero and positive market cap - maybe even large market cap - especially if you pay out dividends. (not sure where AMZN is on this).
mkt cap is tied more to PV of expected EVAs
------------------------------------------------------- > Falling share prices increase the cost of equity > capital That may be true, but we’d expect wacc to remain the same. >, and also can increase the cost of debit > capital if debt covenants are broken (ie. debt to > equity as mentioned above). Have you ever seen a debt covenant that references MVE? I don’t think they’re common. They’re usually tied to accounting ratios. > For partners or > employees with compensation tied to share prices, > their compensation automatically falls. True. > So the > cost of equity / debt are increasing, WACC stays the same, so I think what you’re saying here is false. > the employees’ compensation decreasing, and most > likely the interest payments are increasing (if > debt covenants are triggered), Again, no. > earnings are > lowered and the company is financially weaker. No significant impact here. Believe me the incremental IE due to varying D/E ratios isn’t driving the banks’ problems. (Skyrocketing spreads on short-term funding are a different issue.) > Adding to above, I think debt ratings agencies use > models that use MVE as an input. Lower MVE (or > some ratio involving it) leads to lower rating > whicj eads to higher capital requirments. I’ve never seen such a model. Agency ratings are designed, in the absence of events, to be stable over a 2+ year timeframe. They obviously can’t normally tie ratings to MVE, and they don’t. However if a firm needs to raise E capital, the agency may attend MVE as an indication of how successful such a raise could be. > In similar vein, Altman’s Z-score and Zeta models > for predicting possible bankruptcies have > MVE/Total Assets as an input. As JDV points out, if MVE=0 you’re likely bankrupt. (Though it’s not obvious what’s cause and effect here.) > In the end, I guess it boils down to leverage. Well, at least this time around, it’s boiling down to collapsing home prices and interbank confidence.
bchadwick Wrote: ------------------------------------------------------- > In theory, at least some market cap comes from > discounted expected earnings for the future, so > it’s possible to have retained earnings of zero > and positive market cap - maybe even large market > cap - especially if you pay out dividends. (not > sure where AMZN is on this). But the reason for this is intangibles and accounting. Intangibles are what matter for brand names, management, intellectual property, and similar none of which seem to matter that much for banks (national networks matter and the idea that I can visit my bank on vacation isn’t part of the BV). Accounting only matters to the extent that the assets and liabilities of the banks are hard to value. Is there anyone out there buying up banks because they think the liabilities on the books are overstated or the assets understated? (probably, but small group).
bchadwick Wrote: ------------------------------------------------------- > In theory, at least some market cap comes from > discounted expected earnings for the future, To finger it a bit more precisely: not just discounted expected (mean) earnings, but the time value of the call option on (volatile) earnings.
I believe according to basel II requirements banks are to maintain a Tier 1 capital ratio of 4 % to total risk weigthed assets where Tier 1 is defined mainly as shareholder’s equity minus intangibles such as goodwill as well as deffered tax assets. Thus in part the nationalization of those uk banks, to strengthen their Tier 1 capital ratios and thus their ability to lend again.
This actually went round the office today and not many people in the front office had a decent clue Can someone summarise the position as it stands as reading the thread time and again I am confused as to the position. Ignore debt to equity ratio and conventants that will be triggered as a result of this and also ignore rolling over short term paper… What we have left is a company which raised funds and KEPT those funds (some as assets/others as capital). So I ask my question a different way : If the equity price is reduced how does that affect the tier 1 ratio? Does Basel specify that the capital 1 ratio is a function f the current equity price???