CBA trumps BofA

An interesting statistic from Bell Potter this morning. Bank of America, the bank that takes in a quarter of America’s deposits is worth less than Commonwealth Bank of Australia. Even adjusting for various factors, such as the obvious stress in the US banking system, which has not happened in Australia, the part nationalisation and the obvious financial debauch, it is an amazing figure:

The reason I am publishing this chart isn’t to cheap shot Merrill Lynch, far from it. The point of this chart is that it is the chart of a company that holds 25% of all US bank deposits.
It truly worries me that a bank that is supposedly “too big to fail” is trading like this in the equity market. BofA now has a lower market cap than the Commonwealth Bank of Australia. BofA shares fell again last night to be the only Dow component down on the night. BHP Billiton will report an annual net profit of $22bil today, 1/3rd of BofA’s entire market cap.
What is it trying to tell us?!?!?
Firstly it is telling us to ignore all comments from global bank sector management about “capital strength” and focus on what share prices are telling us. During the GFC the share prices were telling the truth about capital and true liquidity. Documents released by the US Financial Crisis Inquiry Commission show that at the peak of the crisis Morgan Stanley borrowed $107bil in emergency loans from the Federal Reserve, while concurrently management was telling the market liquidity was “strong”. They failed to mention that liquidity was provided by the Fed. That record emergency loan from the Fed was supposed to be a secret, but as chart of Morgan Stanley stock clearly shows, it wasn’t and the market knew Morgan Stanley had a giant liquidity hole. Morgan Stanley shares remain only just above those GFC lows.
This is correct. To state the obvious, there is a deep malaise in America’s financial system that has not been addressed effectively — and the market knows it. If the market’s anticipation is correct then we are in for a rocky ride, and this time governments will not be able to bailout the banks:

These major US financial stock share prices are trying to tell you that we are on the cusp of another genuine round of bank counterparty risk, which is why the true barometers of risk aversion, gold ($1830oz) and US long bonds (2.14%), continue to be extremely well bid. These “death spiral” share prices of selected European banks (despite shorting bans) and selected US banks is the single most concerning aspect of global markets. It is the key reason strategically I am happy to maintain a very conservative equity strategy (focused on large cap sustainable yield) and not be sucked in by explosive short-covering rallies. Until these HUGE global issues are resolved (one way or another) we continue to believe the ASX200 will be stuck in the new lower technical trading range of 3765 to 4270.

It is not overstating the case to say we are a turning point for global capitalism. The shift to the developing world is happening much faster than expected as the developed economies tank. Even brokers like Royal Bank of Scotland are starting to question the system itself. When functionaries like brokers and analysts start asking fundamental questions about the efficacy of the system , you know you are in trouble:

The Bretton Woods 2 system is an informal international monetary system that has existed over the last decade or so. The broad contours of the system are as follows: By running a large current account deficit, the US economy is a source of export growth/employment for emerging markets (EM). The deficit itself, is funded by systematic intervention in the foreign exchange markets by EM central banks, which also provides the external financing required by the US to fund the deficits. Accumulating large amounts of FX reserves and in the form of dollar assets such as treasuries was also viewed favourably by EM central banks and particularly Asian central banks in the aftermath of the 1997/98 financial crisis. In fact, it was a regarded as a form of ‘self insurance’ against future speculative attacks.

The durability of this system is being challenged and the system no longer represents the old symbiosis of interests. As should be inevitable with the level and duration of de-leveraging needed, the growth potential of the US has deteriorated and the current account gap is being structurally downsized. This adjustment will have a lasting impact on EM exports, regardless of the monetary arrangements. And indeed, trade data suggests that the role of the US as the marginal driver of EM exports is diminishing.

The evolving growth model for emerging markets and for Asia in particular, the main counter-party to the US in Bretton Woods 2, is one of self-reliance. As we have discussed in earlier reports, policymakers in the region are strengthening domestic demand via expansionary fiscal and wage policies. These policies are inadequate or have natural limits. Reserve accumulation by definition compresses domestic demand and therefore, offsets the impact of expansionary domestic policies.

The only thing that will probably bail America out is the hegemony of the US dollar, which looks set to continue. The Euro will probably fragment in some way and the Chinese are some way from floating the yuan. America’s capacity to print money because everyone else needs its dollars is probably intact for a decade. The RBS report quotes Jim Connely, US secretary of Treasury in 1971: The dollar is our currency and your problem. Little has changed in 40 years.

The USD Hangover_23 August 2011

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  1. “The evolving growth model for emerging markets and for Asia in particular, the main counter-party to the US in Bretton Woods 2, is one of self-reliance anti-globalization”

  2. Could part of the demise of BA be due to basics of accounting changing the balance sheet?

    Deleveraging results in more deposits or a loan to the bank (Book entry -Increase in Liabilities) vs less loans from the bank to its customers customers plus provision for bad debts be made (Book entry Decrease in Assets)?

  3. Wow.

    When comparative valuations are so far out of whack the temptation is to take advantage. You’d have to either buy BoA, or sell CBA. I know which option makes more sense to me.

  4. I bought a few grand of both BofA and Citi during the GFC when it was $8/share and $3/share respectively ($30 with the split accounted for). It has been quite the rollercoaster – BofA went all the way up to $20 and then came all the way back down to the current $6.

    This is well timed as I was debating whether to buy some more. I think that not only is BofA too big to fail but they also did things like buy Countrywide and Merril at the behest of the Fed and Treasury to save the financial system that were horrible decisions for the company and those two bodies are deep in BofA’s debt now should any more help be required.

    I has also bought some Ford at $2/share and sold that at $7 – I figured I had tripled my money and that the auto industry was a less sure bet than the ‘undervalued’ financials. Then Toyota’s cars had the sticky accelerator problem and their sales tanked and Ford benefited hugely. It goes to show how much chance there is in any of these decisions…

  5. FYI, your opening quote comes from John (not Jim) Connolly, who was Secretary of the Treasury under Nixon. He later was accused but acquitted in an influence peddling case and ran unsuccessfully for President in 1980.

  6. Do you recall the newspaper appearance in February 2008 of that graphic of the market cap of the ten largest global banks ( HSBC, Citi etc).
    It dawned on me that Westpac with a market cap bigger then BofA and Citi could make a strategic scrip offer for a 20% sherholding in Citi ( then trading at US$1.00 per share ).
    To their credit Westpac granted me a hearing.. despite my troubled reputation.

    I argued that Westpac process, protocol, probity were an exportable asset to the 2 Westpac functonaries who deigned to receive me .

    They said no.

    Now that Buffett has moved into BofA maybe they should re-examine the question.