Feds Put More Banks on Probation

The number of ailing banks that have been put on probation continues to grow, according to the Federal Reserve and the Office of the Comptroller of the Currency, two of the primary bank regulators in the nation.  
 
The regulators have issued memorandums of understanding to shaky banks – more this year so far than were issued in all of 2007 – which requires them to take steps aimed at sidestepping costly failures, including raising capital, cutting back on risky loans and suspending dividend payments. 
 
Regulators say the memorandums serve as an early-warning system about troubled banks but aren't intended to imply that a bank is at risk of failing. They are often the first step on the road to more-severe, publicly disclosed enforcement actions if conditions at a bank fail to improve. 
 
Just how many banks are treading on thin ice will become known later today, when the Federal Deposit Insurance Corp. updates its list of "problem" banking institutions. Ninety banks were on the list as of March 31. Five banks have gone bust since last month, and regulators say many others are considered at risk. 
 
Size doesn’t matter in this case, as large and small institutions alike are being served memorandums amid the worst crisis the industry has known in a generation, with real estate and credit market woes pummeling the sector. For example, Cleveland, Ohio-based National City Corp. has $154 billion in assets, compared to Encino, California-based First Private Bank & Trust (a division of Boston Private Financial Holdings) with $660 million in assets. 
 
"The increase in [memorandums] is not surprising given the more challenging market conditions faced by many banking organizations," said Roger Cole, the Fed's director of banking supervision and regulation. They "are useful in specifying weaknesses in risk management and other areas that need to be addressed by bank management." 
 
Because banks don't have to disclose the memorandums, bank customers and investors generally don’t even know they exist. In some recent cases, federal regulators haven't disclosed more-serious enforcement actions against banks until after those banks have failed. Regulators are often wary of igniting a run on the bank, with panicked customers yanking deposits. 
 
Coral Gables, Fla.-based BankUnited Financial Corp. said Monday that its $14 billion banking unit recently entered into an agreement with the Treasury Department's Office of Thrift Supervision over concerns about capital levels, among other things. BankUnited didn't specify whether the agreement was a memorandum or some other type of directive, but the regulator is requiring the company to end its option adjustable-mortgage and alternative mortgage businesses. 
 
The inconsistency of public disclosures "is very frustrating as an investor in bank stocks," said Gerard Cassidy, an analyst with RBC Capital Markets, noting that an enforcement action represents a red flag about a bank's health and is likely to put the brakes on that company's growth. "It would be very helpful in an investor's analysis if they knew that an agreement was already signed." 
 
"Enforcement actions, bank failures and so on are sort of trailing economic indicators," said Oliver Ireland, a former Fed attorney who is now a partner at Morrison & Foerster LLP. "We're probably not done with all this yet. Not by a long shot." 
 
Speculation about these pacts is enough to drive a bank's stock price down. Washington Mutual Inc. took the rare step in June of issuing a statement to knock down rumors that the bank had entered into a deal with its supervisor, the Office of Thrift Supervision. 
 
While regulators wouldn't disclose the names of banks with which they've entered into memorandums, three agencies provided tallies of how many agreements they've arranged, offering a snapshot of the problems engulfing the banking industry. 
 
As of June 17, the Fed had entered into 32 memorandums with state-chartered banks and bank holding companies. For all of last year, the Fed entered into 31 such agreements. 
 
The Office of the Comptroller of the Currency, a division of the Treasury Department that supervises national banks, entered into nine memorandums with banks through Aug. 15, compared with six in all of 2007. 
 
The FDIC, which insures deposits at the nation's banks and thrifts and also is the primary regulator of many smaller lenders, had entered into 118 memorandums as of Aug. 15, compared with 175 for of 2007. 
 
The Office of Thrift Supervision, which supervises federal savings and loans, refused to disclose its data. Senior Deputy Director Scott Polakoff said in an interview that the number had jumped. "We have seen a significant spike," he said. 
 
In certain years during the past decade, regulators issued more memorandums, indicating that regulators are still working to discover how best to deal with troubled companies. 
 
For example, the Office of the Comptroller of the Currency brokered 32 in 1999 and 31 in 2000. The FDIC entered into 198 of these agreements in 2005. Typically, regulators choose to broker a private agreement if they feel management is being cooperative and the bank's problems can be addressed quickly. The cause of those spikes isn't clear.