Capital One: What’s in your Bracket

"Bart Naylor" "Financial policy"Five years ago, Capital One Financial Corp. did not exist as a bank. If the Federal Reserve approves its acquisition of ING Direct and a slice of HSBC, it will be the fifth largest bank in the United States, as measured by deposits. With that approval, we’ll need to adjust the college basketball March Madness-type bracket published not so long ago by Mother Jones (see hyperlinked graphic below) that describes how we arrived at the too-big-to-fail catastrophe that has landed us in the economic muck.

"big bank theory chart"

Capital One entered mainstream banking with a series of acquisitions: Hibernia Corporation in 2005, North Fork Bancorporation in 2006, and Chevy Chase Bank in 2009. Rebranding each of these firms, Cap One’s ubiquitous advertising –what’s in your wallet—aims to convince prospective clients that it shouldn’t trust the marauding barbarians with their money. Are they referring to any of the banks above?

Should the Federal Reserve approve Cap One’s application to join the madness bracket? On Tuesday, Sept. 20, the Federal Reserve opens the first of three hearings, in Washington, D.C., to be followed by a second in Chicago, and a third in San Francisco. These hearings follow a request by Public Citizen along with the National Community Reinvestment Coalition, Rep. Barney Frank of Massachusetts and other partners for greater Fed care.

In its application to the Federal Reserve, Cap One minimizes its size, noting the far larger deposits of Bank of America and JP Morgan. Yet in an investor presentation, Cap One makes the opposite point, where it highlights, “With ING Direct we become the 5th largest U.S. Bank.” Cap One and ING will count roughly $200 billion in deposits, rivaling that of Citigroup’s $300 billion. Already, the four largest banks sit on almost half of all American deposits.

By definition of the new Dodd-Frank Wall Street Reform Act, Cap One already maintains more than $50 billion in assets and is therefore a systemically important financial institution. Given Cap One’s history of acquisitions, additional growth may be anticipated, earning Cap One a place in the category of “too big to fail.”

Federally guaranteed bankers understand that if they grow their institutional large enough, they can gamble with the bank’s fate. If they succeed, they win huge rewards from stock-based compensation. If they fail, the government will bail out their institutions. Whether or not Cap One’s current prudential practices are sound matters little once they hit that too-big-to-fail sweet spot.

Cap One’s own assessment of its risk raises questions. High on the list of eight factors Cap One describes in its filing with the Securities and Exchange Commission is the phrase: “changing economic conditions, which affect borrowers’ ability to pay and the value of any collateral.” As Cap One cannot control the nation’s “economic conditions,” this risk assessment seems problematic. And of course, it has proven to be so as well—as in the financial crisis of 2008, Cap One received $3.5 billion in taxpayer funds through TARP.

The crash of 2008 taught harsh lessons about systemic risk. A particular bank’s sound hedging strategies may be its counterparty’s foolish gamble. Capital One may transfer its risk through derivatives and other instruments to other institutions, but the Federal Reserve must weigh that system risk, not simply Capital One’s exclusive integrity. And how should we measure either Cap One’s safety, or its systemic risk implication? Good question. The Federal Reserve has yet to promulgate those metrics.

Cap One must prove that public benefits of an acquisition outweigh harms such as the obvious increase in systemic risk.

Cap One devotes only a few paragraphs to the issue of risk. Yet the firm sits on one of the largest credit card portfolios in the nation, accounting for a sizeable percent of the underlying asset of securitized credit card instruments.

Further, Cap One confines its discussion of the “public benefits of the acquisition” to 100 words in four sentences, highlighting additional ATM machines and “greater convenience” for customers. On behalf of the American taxpayer, the ultimate guarantor of Cap One, the Federal Reserve should demand a more robust justification.

Bartlett Naylor is Public Citizen’s financial reform policy analyst and advocate.