In the opening keynote speech at SIBOS today, Kenneth Lewis, CEO of Bank of America, spoke of the state of the financial market, the confidence that has been lost, and how that confidence can be restored, along the way evoking Garrison Keillor's Lake Wobegon."One of the ironies of financial crises is that they almost always feel like a great surprise in the moment, but they're almost never really surprising," he said. "At some point leading up to a market disruption, most of us know things are out of whack. We have a sense of where the imbalances are, and what the key indicators are. We know that something's got to give. We just don't know when, or exactly how. And then the floor seems to drop out."
He quoted himself as having said last spring that, "We are close to a time when we'll look back and say we did some stupid things. We need a little more sanity in a period when everyone feels invincible and thinks this is different." How true that turned out to be. Lewis then said, more modestly, "I don't mean to imply that I had any great insight. And, though we feel very good about our risk management practices, we are not immune to the fallout. My point is simply that the signs were pretty clear."
Lewis noted that last year, 23% of all new home loans in the U.S. were subprime, and that 30% of these subprime mortgages were made for 100% of the home's assessed value; many of those homes are worth much less today.
He took a quick stab at the rating agencies, saying that as of July, 75% of residential mortgage backed securities that were backed by subprime loans were rated AAA --10% were rated AA, 8% were rated A, and only 7% were rated BBB or lower. "This reminds me of a story about Lake Wobegon, where all the women are strong, all the men are good-looking, and all the children are above average," he said.
The global economy is still growing, however, Lewis said, and the continued growth in the troubled areas - CDOs, mortgage loans and hedge funds - is a positive. "Helping consumers with damaged credit own their own homes can be, in principle, a good thing," he said. "Most hedge funds do a very good job of allocating capital, private equity, when used to jump start a stalled company, is very useful, and derivative markets are one of the great risk management innovations in history." The curtain has not come down on these markets, he said: "The financial crisis of 2007 won't be the end of mortgage finance, hedge funds, CDOs or derivatives. There is a natural cycle with innovation. When a new idea creates a lot of value, competitors adopt it rapidly. That's the good news. The bad news is that we tend to let innovation outrun our ability to really understand how it affects the markets it's disrupting, or how to effectively manage that disruption. So rapid adoption leads to imbalance, which leads to correction, which leads to stabilization and a better place. The rates of growth in certain financial markets over the past few years clearly were not sustainable, and most participants knew it. What we didn't know was how it would play out, what path it would take, and on what schedule."
In the end, the goal is a balance between growth and stability, Lewis said. "There are many elements that make a difference in this equation - credit, liquidity, employment, interest rates - but perhaps the single most important at any given time is confidence --investor, consumer and business confidence," he said. "And to sustain confidence, an important but often overlooked factor is our ability at any given moment to move money and information through the system with speed, efficiency and accuracy."