Dear Valued Visitor,

We have noticed that you are using an ad blocker software.

Although advertisements on the web pages may degrade your experience, our business certainly depends on them and we can only keep providing you high-quality research based articles as long as we can display ads on our pages.

To view this article, you can disable your ad blocker and refresh this page or simply login.

We only allow registered users to use ad blockers. You can sign up for free by clicking here or you can login if you are already a member.

JPMorgan Chase & Co. (JPM), Bank of America Corp (BAC), Citigroup Inc. (C): Sheila Bair Calls End of “Too Big To Fail”

Sheila Bair, former Chairperson of the FDIC, has been in the news this week after writing an article for Fortune magazine where she argues that the era of “too big to fail” banks is over.

The notion of a stable financial system with diversified risk and effective regulatory checks and balances is certainly noble — but is there any evidence to support the former Chairperson’s idealistic conclusions?

Point 1: The Big Banks are even bigger

At the end of 2007, JPMorgan Chase & Co. (NYSE:JPM) touted itself in its annual report as a “leading global financial services firm with assets of $1.6 trillion.” Fast forward 5 years to Dec. 31, 2013 and JPMorgan has grown by nearly 50% to $2.4 trillion in total assets.

JPMorgan Chase & Co.And JPMorgan is just the largest example. Across the industry, assets continue to concentrate in the largest banks. In fact, 1.5% of banks control over 80% on industry assets. This trend is in spite of the Dodd Frank legislation being extolled by Ms. Bair as the death nail for “too big to fail.”

Bank of America Corp (NYSE:BAC) and Citigroup Inc. (NYSE:C) have each purposefully shrunk to improve balance sheet metrics, but the four largest banks (add JPMorgan Chase & Co. (NYSE:JPM) and Wells Fargo & Co (NYSE:WFC)) have still net on net grown substantially since 2007 and even 2010 when Dodd Frank was first passed.

Point 2: The Markets still price in an implied government guarantee

Across the industry, big banks pay less for their liabilities than smaller banks.

According to the FDIC’s Quarterly Banking profile data, banks with assets greater than $10 billion had a cost of funds of 0.45% at Dec. 31, 2012. This is 26% less than banks with total assets between $1 and $10 billion and 34% less than banks with total assets between $100 million and $1 billion.

A comparison to Dec. 31, 2007 is even more telling. At that time the largest banks paid more for cost of funds than the smaller banks. Average cost of funds for the largest banks was 3.53% versus 3.39% for those with assets less than $10 billion.

This gives the largest banks a tremendous competitive advantage. They can price their loan yields lower and still maintain net interest margins, it improves their profitability, and it boosts both return on equity and return on assets.

JPMorgan Chase & Co. (NYSE:JPM) currently pays 2.06% on its long term debt and just 0.20% on its short term commercial paper as of Mar. 31. Bank of America Corp (NYSE:BAC) paid just 0.30% on average for its commercial paper in 2012. Compared to the 10 year Treasury at 1.75% and the 1-month Treasury at 0.06%, the markets are pricing in virtually no additional risk at the biggest banks relative to the federal government.

The conclusion is clear — the markets are pricing the big banks at levels very near that of the “risk free” Treasuries, because the federal government is still implicitly standing behind the big banks.

DOWNLOAD FREE REPORT: Warren Buffett's Best Stock Picks

Let Warren Buffett, George Soros, Steve Cohen, and Daniel Loeb WORK FOR YOU.

If you want to beat the low cost index funds by 19 percentage points per year, look no further than our monthly newsletter.In this free report you can find an in-depth analysis of the performance of Warren Buffett's entire historical stock picks. We uncovered Warren Buffett's Best Stock Picks and a way to for Buffett to improve his returns by more than 4 percentage points per year.

Bonus Biotech Stock Pick: You can also find a detailed bonus biotech stock pick that we expect to return more than 50% within 12 months.
Subscribe me to Insider Monkey's Free Daily Newsletter
This is a FREE report from Insider Monkey. Credit Card is NOT required.