How to create a bear market rumour: US bank ‘stress test’ results

In the old (pre-internet) days to create a market rumour you actually had to go to the trouble of making a phone call to a broadsheet journalist. As a university prank we rang a major newspaper’s Property columnist, told him we were from the (fictitious) “Real Estate Institute” and did he know if there was any truth to the market rumour that there was a Sheikh in town with $200m to spend on property?

Unsurprisingly (because we’d just made it up) he didn’t know if there was any truth to it but that didn’t stop him printing it prominently the following day, “the real estate scene is abuzz with the rumour that there is a Sheikh in town with $200m to spend on some property acquisitions…” (I have no idea whether or not that benefited someone flogging property over the succeeding couple of weeks, if it did please forward me a cheque care of this blog). 

[PS Don’t try this sort of thing at home, it’s too easy to succeed, and probably illegal into the bargain.]

These days you don’t need to even get someone on the other end of a phone. Last Monday you could watch the internet equivalent of  this sort of rumour-mongering playing out in the blogosphere and email world and it’s interesting to take a closer look at how the rumour spread and why.

The Rumour

On Wednesday I received the following item forwarded by email:

“Monday, April 20, 2009
Stress Test Results Leaked

Posted by [name omitted] at 8:08 AM
Turner Radio Network out with a shocker on what they claim are the leaked Stress results. We paraphrase:

The Turner Radio Network has obtained “stress test” results for the top 19 Banks in the USA.

The stress tests were conducted to determine how well, if at all, the top 19 banks in the USA could withstand further or future economic hardship.

When the tests were completed, regulators within the Treasury and inside the Federal Reserve began bickering with each other as to whether or not the test results should be made public. That bickering
continues to this very day as evidenced by this “main stream media” report.

The Turner Radio Network has obtained the stress test results. They are very bad. The most salient points from the stress tests appear below.

1) Of the top nineteen (19) banks in the nation, sixteen (16) are already technically insolvent.

2) Of the 16 banks that are already technically insolvent, not even one can withstand any disruption of cash flow at all or any further deterioration in non-paying loans.

3) If any two of the 16 insolvent banks go under, they will totally wipe out all remaining FDIC insurance funding.

4) Of the top 19 banks in the nation, the top five (5) largest banks are under capitalized so dangerously, there is serious doubt about their ability to continue as ongoing businesses.

5) Five large U.S. banks have credit exposure related to their derivatives trading that exceeds their capital, with four in particular – JPMorgan Chase, Goldman Sachs, HSBC Bank America and
Citibank – taking especially large risks.

6) Bank of America`s total credit exposure to derivatives was 179 percent of its risk-based capital; Citibank`s was 278 percent; JPMorgan Chase`s, 382 percent; and HSBC America`s, 550 percent. It gets even worse: Goldman Sachs began reporting as a commercial bank, revealing an alarming total credit exposure of 1,056 percent, or more than ten times its capital!

7) Not only are there serious questions about whether or not JPMorgan Chase, Goldman Sachs,Citibank, Wells Fargo, Sun Trust Bank, HSBC Bank USA, can continue in business, more than 1,800 regional and smaller institutions are at risk of failure despite government bailouts!

The debt crisis is much greater than the government has reported. The FDIC`s “Problem List” of troubled banks includes 252 institutions with assets of $159 billion. 1,816 banks and thrifts are at risk of failure, with total assets of $4.67 trillion, compared to 1,568 institutions, with $2.32 trillion in total assets in prior quarter.

Put bluntly, the entire US Banking System is in complete and total collapse.

More details as they become available. . . . . .” 

Spreading a Rumour

There were two other interesting features about the email aside from the fact that it took two whole days (!) to get to us.

Email Your Market Rumour

Firstly, my contact had had this email to him on Tuesday by a large investment banking house which I won’t name whose employee noted that “I am sharing this not to create undue panic but simply to let you know what is out there right now” and who also noted that he was sending this to his “valued clients and friends”.

One could argue that in a sense it’s this professional investor’s job to send round stuff like this if it, a) creates a reason to do a trade (!) and b) to let his clients know what rumours are doing the rounds in the rest of the market. Of course one could also argue that there is a bunch of people out there who could also use the those relatively unknown tools available like Google to check  the truth of what they’re disseminating.

The second thing that I thought was interesting was the speed this rumour spread at and how it spread.  In email terms there were already 3 headers from three different on-forwarders on the version of this story I sent.  Assume, for example, that each person in those 3 ‘layers’ forwarded it to 10 people then that’s 1000 individuals (10 X 10 X 10). Clearly some would have not forwarded it at all and some might have forwarded it to more or less than 10 but you get my drift (and it makes the math trivial).

Blog Your Market Rumour

Bloggers receiving this email unaware (maybe) or at least not bothering to check what was on the web just posted it verbatim on their blogs (actually they had been sent by email the full text of a blog post that was already up). In what NPR’s must-listen-to “On the Media” refers to as the “echo chamber of the blogosphere” it spread quickly, with on Wednesday there being about 96 web pages posted repeating the item verbatim, and when I did this search today (Saturday) there were 441 web pages repeating it. If you’re familar with Google you will also realize that Google’s PageRank system regards a link as a ‘vote’ for the importance of a website (whether your link actually says “here’s a bunch of crap” or “hey look at this item I think is a permanent and unique truth”).

So if you’re trying to spread a bear market rumour you need to realize that a blog post may not be enough: you really need to use email as a mechanism to get it out there (because bloggers reading the email may assume that the item is only being circulated by email and therefore that if they post it quickly on their blogs they may be amongst the first to break it on the web).

What Makes a Market Rumour Work

The best kinds of rumours ride the concerns already out there. This rumour was probably helped by two things: Bank of America’s results happened to also come out on Monday and they weren’t good (a 41% leap in non-performing assets) and of course the general concerns swirling around about banks anyway.

The best kind of spam also circulates effectively because it references an ‘authoritative source’.  The ‘Turner Radio Network’ from the email sounds pretty authoritative doesn’ t it?

Well errr… actually it’s totally unrelated to Turner Broadcasting and as is a blog run by a guy called Hal Turner and hosted using Blogspot’s free hosting service (I’m not going to link to it because PageRank does what it does and I’d merely be driving more traffic to it).

A $527m Market Rumour

Mr Turner himself seems to have been pretty impressed with the results:

“When the U.S. Stock Markets opened, Bank stocks were immediately impacted by folks spreading my report. Bank stock values plunged by eleven percent within 6 minutes. On the S&P 500 alone, bank stock values plunged by about $527