The 4th Quarter Report on Bank Trading and Derivative Activities released last friday by the Office of the Comptroller of the Currency (OCC) is absolutely frightening.
Not only does it show the mounting losses that the US largest commercial banks are facing in most aspects of their activity (especially interest rate, credit and equity trading), but it also shows that their overall risk exposure has been increasing in almost geometric proportions over the last few years. Basically, banks are currently going in a downward spiral where mounting risks cause credit standing declines, which leads to rising counterparty credit spreads, in turn increasing the risk of receivables (especially derivatives).
Even more frightening is the massive concentration of risk with America’s top 5 banks controling 96% of the industry’s total derivatives.
…And the fact that the notional value of derivatives held by U.S. commercial banks increased by $24.5 trillion in the 4th quarter of 2009, to $200.4 trillion.
…And the fact that 96.6% of all derivatives are traded Over the Counter(OTC), ie outside any clearinghouse and therefore escaping regulatory controls.
…And the fact that the percentage of total credit exposure, as calculated by OCC, to risk based capital represents between 179% and 1056% for the top 5 commercial banks, the most exposed being Goldman Sachs.
You thought that Credit Default Swaps (CDS), which lied at the core of AIG’s demise, were like dynamite? Well, they only represent 98.29 % of a trading activity (credit derivatives) that itself only amounts to 9.2% of the total notional value of derivatives traded by commercial banks (78% of total notionals are interest rate contracts).
It is obvious that the whole commercial banking system needs reform and stringent regulations. But that is for the long term. In the near term though,is there any way out of this mess?