If you’ve picked up a paper this week you’ll have read that bulimia doesn’t make you lose weight, Gordon Brown is the one person less popular than Alistair Darling and, with apologies to Thin Lizzy, ‘the banks are back in town, the banks are back in town.’

Yep, we’ve had a whole print works of banking stories:
‘ Bank of England rescues banks’, ‘more banking write-downs’, ‘RBS to launch UK’s biggest ever rights issue’, ‘even more write downs’, ‘Bank of England expects others to follow RBS’, ‘further loan loss provisions’, ‘yet more write downs’. Phew! There was barely time to read about the Ronaldo penalty miss.

Whilst FTSE has been pretty stable so far this week, bank shares have been like swallows in September-heading south en-masse. So why in the week when the Bank of England’s rescue plan has eventually hit the news stands have banks reacted so poorly?

Bank Of England Rescue Plan
Yeah OK, yawn, yawn. I know it’s been talked around for so long it’s on repeats of Have I Got News For You. But it’s linked to the real news so treat this as a brief scene setting.

I won’t bore you with all the details, but there’s a link here if you’re curious. Like anything even loosely connected to Gordon Brown it only gets interesting when you read the small print.

And the small print suggests that this ‘bailout’ might be more of a publicity stunt than a lifeline to the banks. Morally that’s no bad thing; if they want the Bank of England to stick its hand in its pocket then they’ve got to pay up. The BoE isn’t playing swapsies, dishing out £1 of top-drawer government debt for every £1 of toxic crap. Like any self-respecting loan shark the Bank won’t offer the full asking price, and it’ll take a fee for its services.

Yes, it’ll stop the rot and, yes, it will help anyone in deep do-do. But will it turn around the mortgage and lending market? Not in time for your summer holidays.

There was talk of two pre-conditions for this rescue plan. The first isn’t important; a desperate politician with false eyebrows wanted the banks to immediately cut mortgage rates. In response Abbey was the first to raise its fixed-term rates and withdraw from the Buy To Let market.

Even if the money markets do free up, and the LIBOR rate starts to fall, it’s competition that will drive down mortgage rates. But with talk of house prices falling by anywhere between 10% and 30% what’s the incentive to compete on mortgages where the security is likely to vanish quicker than John Prescott’s? If the banks collectively decide not to compete with each other then mortgage rates will remain high and the banks might make some money. Ooops, that almost makes it sound like a cartel.

The other stipulation was taken more seriously; Governor of the Bank of England, Swervin Mervyn King, wanted the banks to raise more capital to boost their balance sheets. And this leads neatly onto the main story of the week.

Comic Relief’s Red Face Day
On Monday Fred Goodwin of RBS donned his Playboy Bunny outfit and went off round the City rattling his collection box. The total required would have caused even good old Jonathan Woss to break out in a sweat-£12 billion please, as quick as you can. And yes, if it’s the only way to raise the money you can chop his head off.

So Why RBS And Why The Red Face?
Royal Bank’s “core capital” (a cushion composed mainly of shareholders’ equity and reserves that regulators insist banks hold against bad times) stands at about 4.5% of risk-weighted assets. This is the lowest of any big British bank and well below the 6% that most banks consider a reasonable minimum level.

The red face is because in February RBS recommended a 10% increase in its total dividend, telling analysts unequivocally that there were “no plans for any inorganic capital raisings or anything of the sort.” Adding a touch of blusher to the red face is the realisation that the situation arose because it won the desperate battle for the Dutch bank ABN Amro. It outbid Barclays, who must have thanked their lucky stars that their offer was trumped.

RBS reckons that this rights issue, plus the disposal of its insurance arm, will push its core (Tier 1) capital up to a respectable 6%.

I’ll bet some of you are wondering, “what the hell’s Tier 1 capital when it’s at home?” Tier 1 capital is a cushion set by the regulators. It allows a bank to absorb losses without having to stop trading. Tier 1 capital is made up of capital that doesn’t have to be repaid (shareholders’ equity, reserves and hybrid capital instruments). Core capital is Tier 1 capital minus the hybrid instruments. The scale of recent losses has brought Tier 1 capital (a bank’s ability to withstand losses) sharply into focus.

The First Of Many?
Watch out for plenty of unshaven bankers down in the town centre, accompanied by an undernourished mongrel, selling copies of the Rights Issue.

Yes there’ll be others. For a start, Mervyn says so and I’m not going to argue with him.

The banks face two more fundamental issues that will put new pressure on their capital bases. First, they are confronting a fresh wave of write downs on exotic treasury assets and trading securities, which could hit their core capital ratios - the cushion of capital they are required to hold by regulators. And Second, Basel II (see below) banking rules will demand more capital.

Investment Bank JP Morgan (yes the one with the smug ‘we didn’t do too badly’ grin) reckons that UK banks need to raise around £37 billion. They say that HBOS needs £11 billion and Barclays £8 billion. Those are the two names most banded around, but in the little boys’ camp Bradford & Bingley and Alliance & Leicester get honorary mentions. While B&B might have many things wrong with it, not least its love of Buy To Lets, its Tier 1 capital cushion is a mammoth 8%. Alliance & Leicester is less comfortable at 5.3%.

But Are All The Problems Out On View Now?
None of these are a secret, but my view is they’ve been playing Cinderella to the credit crunch and liquidity crunch ugly sisters:

Basle II. This is a dull set of banking rules that will require expected losses from the probability of loan/ mortgage defaults to be deducted from capital. This means that the amount of capital banks need to hold against the same loans will increase in an economic downturn. This will put further pressure on their capital ratios (with the prospect of a housing market tsunami HBOS springs to mind) and makes banks even less keen to lend money out.

Revolver Credit Facilities. No, this is nothing to do with a gang of hoodies requesting funds using a pistol rather than a debit card. These are pre-arranged guarantees to lend money to highly-leveraged companies. They were arranged at a time when private equity firms were every-ones’ best mate; the facility is a draw-down facility which the banks are obliged to honour, or risk facing legal action. Banking analysts are concerned that as leveraged funds find it increasingly difficult to re-finance loans they’ll resort to drawing down on these facilities.

Oh yes, and the banking business! Let’s put aside the worries about sub-prime, not because they’ve gone, but because they’ve been done to death over the past few months. But an economic slowdown leads to job losses and belt tightening across the spectrum (with the exception of footballers and Members of Parliament). This will lead to rising loss provisions on prime mortgages and credit cards, not to mention commercial lending.

New business volumes are falling; yesterday mortgage approvals hit a record low and business in the capital markets is likely to remain subdued until balance sheets have recovered.

Time To Deposit Some Money?
Plenty think so; banks are generally off the worst levels seen in the bleak depths of January.

The cost of buying insurance against European banks defaulting has fallen by over 50% over the past 5 weeks. Part of that move is a correction from a record level, but it does suggest that investors are less worried about dramatic shocks in the sector.

If you believe in them, dividend yields are high, adding support to the share price. HBOS is offering a yield of 9.2%, though it would usually be right to keep the bargepole well away from anything offering that sort of yield. Barclays and Lloyds are offering 7.5% and 8.4% respectively.

The thing is, if you’re a multi-billion Dollar sovereign wealth fund this is the time when you get invited in for scones and tea. If you want to buy a sizeable chunk of a bank then there’s no time like the present.

Fund managers allocate sector weightings to their portfolios. I’m guessing quite a few funds have been a bit underweight banks, so there’s scope for some buying there. But with between £12-37 billion of new shares in this year’s ‘Summer Special Offers’ I reckon there’ll be quite a bit of selling of bank shares to fund the cheaper rights issues.

Hedge funds also used to play a neat little game called ‘let’s trash the share price then we can pick up the rights issue shares at a lower price.

We’re traders. We don’t have to be in the market and we don’t want to be nursing losses over several months. I think it’s too early for the recovery play; I’m currently running shorts in Barclays and Alliance & Leicester; they’ve both fallen by around 9% over the week, compared to a 1% drop in the FTSE so now might not be the time to enter new shorts. The Barclays chart shows a great trading range; I might use the support level to close out my short, but wouldn’t go long there before a rights issue announcement. For the moment I’m happy to stay short of bank stocks on a trading view and wait for the army of ‘tin rattlers’ to come calling.