Umbrellas, Dinosaurs and the U.S. Financial System

“A banker is a fellow who lends you his umbrella when the sun is shining, but wants it back the minute it rains.”
Bradley’s Bromide

It is storming in the financial markets and the banks want their umbrellas back and in some cases are they are then closing their doors. This is the complete restructuring of the U.S. financial system and everyone is hoarding umbrellas.

Sunday night was surreal. I was folding laundry and watching a Discovery Channel program about the lives and extinction of dinosaurs with my family. During ads I was allowed to switch the channel to the financial stations (CNBC) and hear about the extinction of the U.S. Investment Banks. In my 30 years in the financial industry I have seen restructures, consolidation and failures before but this was a mass extinction. On Sunday it somehow seemed apropos to be learning about the extinction of both dinosaurs and investment banks.

Someday I may be telling my children the story of the five investment banks that like the three little pigs built their homes of sticks and straw. Only in this case none of the five investment banks built a house of bricks. So no one was saved from the big bad wolf.

Why is this such a significant event that the press is now calling it Black Sunday? The failure of our banking system is the equivalent of a heart attack for the U.S. markets. It will take a complete heart transplant to revitalize our capital system. The flow of credit is the blood that keeps our economy humming. When banks fail, lending contracts, business can’t grow and the economy contracts. What might save us this time is the globalization of the banking system that has occurred over the last 15 years. We no longer supply the entire world’s capital needs. In fact, the funds used to prop up most of the financial system this year has come from Europe and the Emerging Markets.

It is this new global banking system that will help to resuscitate us. Our financial system will emerge more humble and more conservative (not as leveraged). We will re-emerge but gone will be the high flying dare devil acts that were so common on the street. Profit margins and growth rates for financial stocks will be much lower than the steroid pumped returns we had grown use to. Our stature in the world as financial power will shrink as well. Our economy will be contending with the fallout from this implosion for years to come. The good news is that we are dealing with our problems unlike the Japanese that just left their banks on life support and never operated.

In the long run our economy will be fine. It is important to view your investments as long run commitments. Would you buy a house and then a few days later sell it in a panic? No, so why would you treat your portfolio that way? In the short run the markets will continue to be down right frightening. Volatility is at a thirty year high. This is exactly the wrong time to be selling. In fact, this is the point when you start buying. No one can call the market bottom, so this is the time when smart investors start cherry picking.