Bank Failures: Not a Significant Indicator

A bank failure is news.  It is clearly negative news.  What does this information really mean?

Bank failures are a concurrent indicator of the recession.  The rate of failures is bad, but not as bad as the Savings and Loan crisis.  Take a look at this chart from featured site Calculated Risk in an article from a year ago.  Bank failures are up from good times, but nowhere near the levels of the 80's.

News Information versus Perspective

Several sources are highlighting bank failures, announced each weekend.  The information is accurate, but it lacks perspective.  The real question is whether the bank failures provide any predictive information about the economy or the market.

CXO Advisory (another featured source)  has done the analysis. Readers should check out the entire article to see the typically excellent charts.  Here is the key conclusion:

Visual inspection indicates
no systematic relationship between the bank intervention rate and stock returns.

and further…

bank intervention anomalies (1935-1942 and 1982-1993) produces an R-squared
of 0.00. These results do not support a belief that the annual FDIC bank
intervention rate relates systematically to annual stock market behavior.

and finally….

In summary, evidence from simple tests does not support a belief that there
is a systematic relationship between the annual rate of FDIC bank closings and
assistance transactions and annual U.S. stock market returns.

Our Take

Bank failures are news.  Objective reporting of this news cannot be criticized.

Having said this, investors must learn to distinguish between coincident negative indicators of an acknowledged recession, and data that has a better predictive value.  At "A Dash" we try to highlight these differences, as we did here.

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  • Larry Nusbaum May 3, 2009  

    I am afraid that we have not see the worst of the bank losses as of yet. This may send the economy over the cliff and cause serious EPS erosion. I see the market taking a hit as a result…

  • Jeff Miller May 3, 2009  

    Larry — so putting this another way, you dispute the statistical analysis from CXO. Your opinion is that there will be more bank losses, and your further opinion is that the long-term relationship between bank failures and the market is incorrect….
    Just checking….
    I always look for insight from every comment, but those replying on this one here and on Seeking Alpha all seem to give opinions about the banking system.
    That is not the point of the article — a statistical analysis of potential leading indicators.
    So the key question is why this time is different?