The First Indicator Of Bank Failure

From Bloomberg:

Bank Santander profit drops 24%

Banco Santander SA (SAN), Spain’s biggest lender, said first-quarter profit dropped 24 percent as souring loans crimped income from its home market, Brazil and the U.K.

Net income fell to 1.6 billion euros ($2.1 billion) from 2.11 billion euros a year earlier, the bank said in a filing today. That missed the 1.65 billion-euro average estimate in a Bloomberg survey of 14 analysts. The shares fell as much as 3.6 percent.

The lender predicted reduced U.K. profit this year and said it increased provisions for asset impairments to reflect the weak economies in Spain and Portugal as well as bad loans in Brazil, the nation that contributes the most to the bank’s earnings.

The Spanish government has ordered banks including Santander to book more losses on their real estate holdings as the recession threatens to force more loans to homeowners and companies into default. The results follow figures yesterday from Santander’s closest Spanish rival, Banco Bilbao Vizcaya Argentaria SA, which is more dependent on the Spanish market. Shares in BBVA (BBVA), which yesterday posted 13 percent decline in first-quarter profit, fell 2.1 percent today.

Bad loans as a proportion of total loans rose to 3.98 percent from 3.89 percent in December and 3.61 percent a year ago. The bank booked 3.64 billion euros in loans newly classified as in default from 4.05 billion euros in the fourth quarter and 3.11 billion euros a year ago.

Provisions for asset impairments surged in the quarter to 3.13 billion euros from 2.07 billion euros a year earlier because of Spain and Portugal and growth in its Latin American loan book, Santander said.

My view:

Some of the issues presented here were covered in a recent post "How we know another credit crisis is coming".

It seems to this blogger, that banks are using accounting tricks to misrepresent earnings. A decline in earnings is one of the earliest indicators that a bank is heading toward failure.  Since bad loans are rarely marked at market value, provisions for impairments are understated and surprise shareholders after the fact.

In a declining economy, like Spain, Portugal or even the UK are now experiencing, this understating of losses misleads investors and the public to believe that either all is well, or that the earnings downturn is not that bad.

Consider this quote regarding Spain's recent debt downgrade from Bloomberg:

Spain’s budget shortfall will reach 6 percent this year and 5.7 percent in 2013, as the government pushes through the deepest budget cuts in at least three decades, according to forecasts from the International Monetary Fund published April 17. Debt will reach 84 percent of GDP next year. While that’s less than France and Italy, it’s up from 40 percent in 2008, when a real estate boom started to collapse.
Spain doubled its the size of its debt compared to its economy in just 5 years!
It remains my assertion that many prominent large market cap banks are already severely equity impaired or technically insolvent.  As the euro crisis unfolds, we can expect to eventually see bank holidays and even bank runs in Europe.