The Danger In U.S. Banks; Why Warren Buffett Is Wrong (XLF, FAS, FAZ, BAC, WFC, GS, JPM)

Ben Gersten: Warren Buffett has made billions since the financial crisis by investing in U.S. banks, including Bank of America (NYSE:BAC), Wells Fargo & Co. (NYSE:WFC) and Goldman Sachs Group Inc. (NYSE:GS).

The Oracle of Omaha has even guaranteed the safety of U.S. banks.

“The banks will not get this country in trouble, I guarantee it,” Buffett told Bloomberg News. “Our banking system is in the best shape in recent memory.”

Buffett, CEO of Berkshire Hathaway (NYSE: BRK.A, BRK.B), says U.S. banks are safe because they have increased capital ratios, sold risky assets, cut unnecessary jobs and bolstered their balance sheets.

But while the U.S. banking system might be in better shape than it was five years ago, it is nowhere near fixed. And banks could cause another crash.

Here’s why. Get A Free Trend Analysis For Any Bank Stock Here!

The Danger in U.S. Banks

Dodd-Frank, the 848-page mess of financial regulations signed into law in 2010, plus the Basel III liquidity and capital requirements, were intended to make banks more transparent, less leveraged and safer – but they’ve failed miserably in those respects.

These laws, intended to curb banks’ manipulation of the financial system, have in fact helped banks continue to do so because of their complex nature.

That means investors – and more importantly, regulators -still have little clue about what risks banks are taking and when those risks will implode.

“There’s so much opacity with these institutions,” Neil Barofsky, former inspector general of the Troubled Asset Relief Program, which administered the bank bailouts, told Bloomberg. “It’s really almost impossible to tell where those risks are.”

For example, just last spring JPMorgan Chase & Co. (NYSE:JPM) lost some $6.2 billion through risky derivative bets with customers’ money in the infamous “London Whale” trading case.

And the “too-big-to-fail” banks that were supposed to be reined in through regulation actually keep getting bigger as the Federal Reserve continues inflating their balance sheets through QE3.

This week, global regulators reduced the Basel III liquidity and capital requirements for banks, using the misguided thinking that lower capital reserve requirements will encourage lending.

Regrettably, the new Basel rules allow banks to hold less cash and give them the ability to use mortgage-backed securities against their liquidity requirement. This simply makes banks riskier over the long term and will not lead to increased lending, as banks are currently liquid enough to lend more, but are not doing so. Get A Free Trend Analysis For Any Bank Stock Here!

“Faced with renewed pressure from the international banking lobby, these [Basel] officials caved in, as they did so many times in the period leading to the crisis of 2007-08,” Simon Johnson, a professor at the Massachusetts Institute of Technology Sloan School of Management, wrote in The New York Times. “As a result, our financial system took a major step toward becoming more dangerous.”

Money Morning Global Investing Strategist Martin Hutchinson, a former global banker, agrees that U.S. banks aren’t out of the woods yet.

In fact, he says our zero interest rate policy and the failure of Dodd-Frank and Basel III mean U.S. banks are at risk of crashing again.

“U.S. banks are still dangerous because Chairman Bernanke’s policies encourage leverage and “gapping’ – borrowing short and lending long – both of which can lead to giant crashes,” Hutchinson said. “Furthermore, Dodd-Frank and the Basel regulations are fatally flawed, adding huge bureaucracy, but creating a complex system that big banks can “game’ by fiddling with their risk-management systems, which, as we saw from the London Whale fiasco, can go horribly wrong.”

Hutchinson doesn’t see safety in U.S. banks, but favors bank stocks from another region in the world. He just highlighted four of these bank stocks to buy now – check them out here.

Related: Direxion Daily Financial Bear 3X Shares ETF (NYSEARCA:FAZ), Direxion Daily Financial Bull 3X Shares (NYSEARCA:FAS), Financial Select Sector SPDR ETF (NYSEARCA:XLF).

Written By Ben Gersten For Money Morning

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