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Bank earnings have pleasantly surprised Wall Street this quarter and have formed the basis for the recent market rally. After careful examination, we might be looking at a case of smoke and mirrors. Consider the analysis offered by Jim Welsh reviewing Citigroup’s recent earnings announcement.

Citigroup said it made $1.6 billion. One of the ways Citigroup achieved this gain was booking a profit of $2.7 billion on the decline in Citi’s own debt. Say what? Under accounting rules, Citi was allowed to book a one-time gain equivalent to the decline in the bonds it owes because, in theory, it could buy back its debt cheaply and save $2.7 billion over time. Of course, Citi didn’t actually do that. Even though more consumer loans went bad in the first quarter, Citi reduced its loan loss reserve from $3.4 billion in the fourth quarter to $2.1 billion in the first quarter, thereby picking up another $1.3 billion of ‘earnings’. And the recent change in mark to market accounting enabled Citi to book an additional $413 million in ‘profit’ on impaired assets. Without theses one-time adjustments, Citi’s $1.6 billion in first quarter profit becomes a $2.8 billion loss.

According to a Wall Street Journal analysis of Treasury Department data, the 19 banks that received taxpayer funds made or refinanced 23% less in new loans in February versus last October. Why lend money when all you’ve got to do is make a few adjustments and make even more money?

April 30, 2009, 4:34 am – Wealth Dimensions Group
The tug-of-war continues to intensify as equity markets rally against the backdrop of challenging economic information. As of yesterday’s close, the 25 percent rebound in the S&P 500 is now the largest since 1938, coming off of the lows of early March. Quite remarkable that the S&P 500 is still down 8 percent for the year and 42 percent from the October, 2007 high.

Investors are finding encouragement in economic data that is being interpreted as “less bad”. While the rate of decent may be slowing, it is difficult to find much improvement. Yesterday, GDP growth for the first quarter was reported as down 6.1 percent for the first quarter and jobless rates rose in all 372 metro areas. In addition, the Case/Schiller real estate index was reported down another 2.2 percent in February and 31 percent below its peak with no evidence of a turnaround.

This tug-of-war will continue as additional economic news emerges and Washington justifies record deficit spending as the solution to the economic woes. The Obama administration in coordination with the Treasury and Fed are intent on borrowing and spending at record rates to do “whatever necessary” to stimulate the economy. While this rally is certainly welcome, it should be viewed with some skepticism. Emotions run high in difficult times and investors can easily move from overly pessimistic to optimistic as the markets and the economy progress through normal cycles.

April 22, 2009, 11:20 am – Wealth Dimensions Group
This morning, Treasury Secretary Timothy Geithner addressed the Economic Club of Washington. In his presentation, he stressed that, while the United States is prepared to incur big budget deficits now to spur economic activity, it is vital to set out a path for getting spending under control over the medium term. President Obama has pledged to cut the deficit in half over the next four years. With a deficit of $1.875 trillion for this year, cutting it in half in four years would still leave it more than double the largest deficit in US history.

In a review of the proposed Obama budget submitted to Congress, the Congressional Budget Office recently projected the United States will run deficits of $9.3 trillion over the next 10 years.

If that is what Mr. Geithner means when he says getting it under control, we better think long and hard about this new policy in Washington. The United States’ standing as the safest world currency will be erased and we may be buying oil and other raw materials priced in Chinese Yuan.