"Embarrassing", "Catastrophic" and "Disastrous"

From The Independent, big banks always find a way to lose money in a big way, and this time it'll be their mortgage lending (and eventually derivatives) businesses. (Of course, the top executives responsible will still cash out with millions in severance when they leave, and US taxpayers will pay the eventual bill).

"Embarrassing", "catastrophic" and "disastrous" as not words one usually associates with HSBC. But they were being thrown around with wild abandon yesterday as the market woke up to the first profits warning in the 167-year history of Britain's biggest and most prestigious banking group.

The first came from the mouth of an HSBC spokesman; the latter two were used by analysts to describe a truly horrific trading statement in which the company was forced to admit it had got its figures on non-performing loans - bad debts - badly wrong.

While the market had expected provisions of about $8.8bn (£4.5bn) to cover these, the bank was forced to admit it will need to set aside nearer $10.6bn. The reason? The US sub-prime lender, Household.

Everyone knew there was a problem with the business, which offers mortgages and other loans to people whose poor credit histories mean they are shunned by mainstream lenders. The company was forced to admit in December that it was grappling with difficulties at the operation, bought for $15bn in 2003. Some clients were defaulting on second mortgages within just six months of taking them out.

However, it appears that the bank underestimated the scale of the difficulties faced by Household. The biggest problem lies with mortgage books bought from other banks. There is a plethora of small banks in the US and their financing costs are much higher than HSBC's. So, the reasoning went, if HSBC were to buy up these books it would produce a good return because it could finance the acquisitions relatively cheaply.

What it didn't take into account was a fundamental problem with the US housing market. There has been an unprecedented construction boom in the US over the past 15 years. So much so that the Goldman Sachs economist, Jan Hatzius, estimates there are about 1.5 million excess homes in the US.

More good stuff on this from Nouriel Roubini's blog.