Questions on a bank's operations

I have a question: Since deposits are liabilities and mortgages/loans are assets, then isn't a highly leveraged bank a *GOOD* tihng? Here are two examples:
Bank A: It has $1M in total assets, of which $100K is equity, and $900K is in depositor's accounts which is a liability. The leveraged position here is 10x.
Bank B: It has $1M in total assets, of which $500K is in equity, and $500K is in depositor's accounts which is a liability. The leveraged position here is 2x. However, this sounds like a stronger balance sheet, but keep in mind, they have far more in outstanding mortgages/ loans that they've financed. This is a bad thing.
On the other hand, Bank A has far less in outstanding mortgages/loans, and therefore, they are less "margined" or leveraged.
I'm confused. Which bank is in a better predicament, and what ratio would show that it's in a better predicament?
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The problem with leverage has nothing to do with assets and liabilitys.
The problem is that leverage amplifys the penaltys and benefits of correct financial decisions.
So if the mortgages are toxic debt in the sense that they will see a lot of defaults, they arent assets and become liabilitys when you cant get rid of the mortgaged propertys.
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I totally understand the principle of leverage and how it accelerates bankruptcy. My question arised after reading about American and European banks and their capital structure on http://valtenbergs.com/archives/601 .
They compared European banks, which had a very high leverage ratio when compared to American banks. However, I would think that a bank which has a lot of depositiors and very few borrowers is a more prudent bank. Of course, they probably aren't making much money.
According to my calculations, the HIGHER the leverage ratio (i.e. (liabilities + equities)/(equities) ), the more solvent is the bank. All depositors are liabilities, remember. Moreover, assets is always equal to liab. + equities.
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Its not the number of each that matters, its the amount of money deposited and lent.

Indeed.
Thats not right.

It much more complicated than that, particularly when runs on banks happen because the depositors have decided that you have a lot of toxic debt that you arent admitting to.

Its much more complicated than that too, particularly when you have to mark to market.
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If, and only if the assets (loans) are valid and presented on the financial statements at the lower of cost or market. So that $100,000,000 loan you made on an asset that is now worth $500,000..........people want to know.
Otherwise, if the loans are all good - being paid or if the loan collateral is good - greater than the loan amount.
What has happened is the loans are not being repaid and the banks are finding the colateral is not worth the loan amount.
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On Thu, 23 Oct 2008 11:25:12 -0700, 2.7182818284590... wrote:

i don't know what you're asking but if you can accept the question being restated as:
bank A: $1M in deposits with $900K loaned out & $100K in reserves bank B: $1M in deposits with $500K loaned out & $500K in reserves
if they both have similar loan default rates, then i'd say normally bank B would be safer. however, i think what you're getting at is that if bank A had it's reserves stored in treasuries and bank B had it's reserves stored in CDOs which had a book value of $500k but were actually only worth $50k due to the CDO market collapsing, then bank A is safer.
with mark-to-market rules bank B should have already marked down the value of it's reserves but, imo, a big part of the current credit crises is that there's not a lot of confidence that banks have properly marked down their CDOs (and how could they with no buyers at all, they'd have to write them down to zero and while that's probably what the lowest tranche CDOs are worth that's not true of the higher tranches so what value should they be written down to? that's the trillion dollar question...)
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Mike wrote:

I've been thinking about the fair value question in illiquid markets, and so far my answer is value = ? .
Could there be historical precedents?
David
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If things are going well, and the income from the assets is more than the cost of the deposits, then Bank A will be more profitable.
But it's different when things go wrong.Say some of the loans default, so the assets are now only worth $800k.
Bank B now has assets of $800k and liabilities of $500k.So they're still solvent.The shareholders lose because their $500k equity has gone down to $300k. But anyone who buys shares knows (or should know) that they're taking a risk.
However, Bank A now has $800k in assets and $900k liabilities.So now they're bankrupt, and the government will have to bail them out.
This is the problem with fractional reserve banking.When people deposit money in a bank they expect it to be 100% safe.Loans, on the other hand, are never 100% safe.Assets can lose their value, people can lose their jobs, businesses can fail.
What the banks are trying or pretending to do is to take a bunch of risky assets and somehow make them into a risk-free asset.For a while, it looked like the banks had solved the problem. lots of people thought that by diversifying investments, hedging bets, etc.,etc., the risk could be eliminated.
Now it seems like a lot of people got it wrong.
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Thanks - kind of answers the question I posted a week ago re: Bank Accounting.
Clearly, the more highly leveraged bank is in the more tenuous position, and is the least 'liquid' - there is very little margin for them to weather a downturn in their assets.(Would you consider yourself more liquid if you owed 10x your net worth, or only 1x your net worth?)
I would like to know how Wachovia went from a 10Q stating $812 billion total assets to selling itself on the street corner for $17 billion. I read over their 10Q and could not find indications of a $795 billion write down. Finally it dawned on me that the place to look would be the year to year increases in liability accounts such as long term loans. If the bank borrowed $40 billion (not unseemly for an $812 billion dollar balance sheet) and used that to buy 20x leveraged CDO's, well, there is $800 billion in mark-down-able CDO's. Trouble is, I didn't see where they stated such holdings of CDO's. So the mystery remains, and remains ... how do you hide an elephant in a swimming pool? Cramer's Wall of Shame has Steele's picture on it.
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