IndyMac Collapses From Bank Run

Cash is king right now because most investments don’t cut it, but if you think fixed deposits in banks are risk-free, think again.

Last Friday, Indymac became the largest regulated thrift and second largest financial institution in U.S. history (with $32 billion in assets) to be seized by federal regulators after succumbing to pressures of crashing home prices, tighter credit and foreclosures. This marks the fifth FDIC-insured failure of the year.

The tipping point for Indymac’s collapse was a bank run which began after a June 26 letter to OTS and FDIC from Senator Charles Schumer went public. The letter expressed concerns about IndyMac’s viability. Since then, depositors withdrew more than $1.3 billion from their accounts.

OTS had actually raised concerns about Indymac’s funding strategy in late 2007, and devised tougher rules for them to conform. Steps were underway to modify business operations and Indymac was also actively seeking a significant capital infusion, and even a buyer. However, lack of public confidence and the liquidity crisis short-circuited any recovery plans.

IndyMac is now forced into receivership. As of March 31, IndyMac had total deposits of $19.06 billion, of which the majority (depositors with $100,000 or less) are safe. For those who are uninsured, they may file a claim with FDIC but how much they can retrieve will depend on the eventual liquidation of Indymac’s assets.

I believe IndyMac’s failure did not start from a simple warning letter. It was due to long-standing loose practices by the bank and negligent regulatory duties of OTS.

IndyMac specialized in making and selling so-called Alt-A mortgage loans, a category of loans to consumers more credit worthy than subprime borrowers but typically without the complete documentation of income or assets necessary to receive a prime-rate loan.

This practice is a disaster in the making. Without stringent credit checks, we can expect more bank runs to emerge in future. I will discuss the situation of fixed deposits in Singapore banks later. Stay tuned.

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