Big Surprise: Most Big Banks Lack Capital

My post title is an ode to Yves Smith, who likes to feign surprise when the blindingly obvious finally comes into plain view for all to see. The latest sign that underneath the surface weakness remains at large financial institutions comes courtesy of Standard & Poor's. According to the Telegraph’s Ambrose Evans-Pritchard, S&P believes many are horribly short of capital.

Every single bank in Japan, the US, Germany, Spain, and Italy included in S&P’s list of 45 global lenders fails the 8pc safety level under the agency’s risk-adjusted capital (RAC) ratio. Most fall woefully short.

The most vulnerable are Mizuho Financial (MFG) (2.0), Citigroup (C) (2.1), UBS (2.2), Sumitomo Mitsui (SMFJY.PK) (3.5), Mitsubishi (4.9), Allied Irish (AIB) (5.0), DZ Deutsche Zentral (5.3), Danske Bank (DNSKY.PK) (5.4), BBVA (5.4), Bank of Ireland (IRE) (6.2), Bank of America (BAC) (5.8), Deutsche Bank (DB) (6.1), Caja de Ahorros Barcelona (6.2), and UniCredit (6.3).

While some banks may look healthy under normal Tier 1 and leverage targets, critics claim these measures can be highly misleading since they fail to discriminate between high-risk and low-risk uses of leverage. The system failed to pick up the danger signals before the financial crisis. The supposedly moderate leverage of US banks in 2007 proved to be a spectacularly useless indicator.

This shouldn’t come as a shocker. Recently, I mentioned that Citigroup was well-capitalized according to standard metrics due to government bailout money. But questions linger about whether this profile masks large holes in Citi’s balance sheet. Irrespective, Credit Suisse believes that regulatory hurdles for Citigroup will restrict its earnings potential. The S&P article bears this out.

S&P has shifted to a tougher code. It is less tolerant of hybrid capital – a liability rather than an asset, and no defence in a crunch – and insists that banks must quadruple capital put aside to cover trading desks. Private equity exposure will be treated more harshly.

The Bank for International Settlements unveiled its own version in September. The regulatory framework worldwide is clearly shifting in this direction, a move that will hit some banks harder than others. "We expect banks to continue strengthening capital ratios over the next 18 months to meet more stringent requirements. Failure to achieve this could put renewed pressure on ratings," said Bernard de Longevialle, S&P’s credit strategist.

If S&P understands the weaknesses masked by measures such as Tier 1 capital or even tangible common equity as proxies for bank health, I suspect national regulators do as well. However, the recovery to date has been built on the back of avoidance of this unpleasant fact lest we risk a renewed bout of panic and another downturn. Under no circumstances do policy makers want large financial institutions to be subject to tougher regulations before they have rebuilt capital via government purchases of toxic assets, government backstops, low interest rates, and a steep yield curve.

Tougher rules at this juncture may prove "pro-cyclical", if banks respond by cutting loans. This may perpetuate the credit crunch for smaller borrowers unable to tap the bond markets. "There is a risk that the increase in regulatory capital requirements could weigh on banks’ ability to finance recovery," said Mr. de Longevialle.

Below is a list of the safest institutions according to S&P. While I expected to see HSBC (HBC) and Standard Chartered (SCBFF.PK) on the list, Santander is a notable absence. Also a bit surprising, Deutsche Bank, generally deemed to have weathered the storm (despite large CRE exposure), is one of the weakest, not the strongest. I never would have expected Dexia (DXBGF.PK), ING and Barclays (BCS) to be on the list of strongest. And Nordea still has large exposure to the Baltics. But ING and Dexia have received large bailouts from the Benelux governments respectively. See my list of bank writedowns for specific events by institution.

The "safest" global bank is HSBC (9.2), followed by Dexia (9.0), ING (8.9) and Nordea (8.8). UK banks fare relatively well: Standard Chartered (8.1) is in the top quintile; Barclays (6.9) is in the middle. The study left out RBS and Lloyds (LYG) because their status is unclear. Chinese banks – the world’s largest – were excluded.

On the whole, this report leaves me more convinced than ever that a double dip recession would tip us into a 1931-style panic. When I make the Obama-Hoover analogy, this is what I am referring to. As Barack Obama pushes forward with his deficit reduction scheme, perhaps 1931 should be top of mind more than 1937 — or 1994 as seems to be the case for him.

Source

Most global banks are still unsafe, warns S&P – Ambrose Evans-Pritchard, Telegraph

Comments

[bbro]

Here we go again....Mr Harrison doesn't specify what charge off rates
he thinks will occur for that matter neither does S&P. He keeps quoting 1931...well chargeoffs were 1.2 %. Using the two worst years
were 1933 and 1934 the chargeoff were 3.1% and 3.4%...The adverse
stress test had 4.5% for 2 years. Tangible common equity is not the
only proxy for judging health but it certainly is one of them. Preprovision earnings is very important in this environment. Why doesn't Mr. Harrison discuss that????

2009 Nov 24 04:51 AM

[tommiegun]

?,,,,,,,,,,,,,,,,,,,,,...

2009 Nov 24 08:48 AM

[Edward Harrison]

As with your coment on another article, I am pointing out downside risk. My baseline scenario had assumed that the large banks will earn enough money to make up for any potential writedowns and build adequate risk capital over time.

I am now more concerned that a double dip would jeopardize this.


On Nov 24 04:51 AM bbro wrote:

> Here we go again....Mr Harrison doesn't specify what charge off rates
>
> he thinks will occur for that matter neither does S&P. He keeps
> quoting 1931...well chargeoffs were 1.2 %. Using the two worst years
>
> were 1933 and 1934 the chargeoff were 3.1% and 3.4%...The adverse
>
> stress test had 4.5% for 2 years. Tangible common equity is not the
>
> only proxy for judging health but it certainly is one of them. Preprovision
> earnings is very important in this environment. Why doesn't Mr. Harrison
> discuss that????

2009 Nov 24 10:40 AM

[Gary A]

The Bank of International Settlements allowed off balance sheet ponzi housing to reach US shores complements of their tool, the Federal Reserve private Bank. Now the BIS is increasing capital requirements and servicing of the national debt is increasing. We are more and more into debt to the bankers every day, and yet they allowed the ponzi.

Let the military of the United States surround the BIS and let US banks default on all the things the BIS and the Fed allowed them to do in the absense of sound underwriting. Jail the Fed and the BIS.

I doubt anything else will allow us to be any different than Japan.

2009 Nov 24 10:53 AM

[bbro]

You always point out downside risk......show your baseline scenario
with numbers so readers can judge for themselves.....


On Nov 24 10:40 AM Edward Harrison wrote:

> As with your coment on another article, I am pointing out downside
> risk. My baseline scenario had assumed that the large banks will
> earn enough money to make up for any potential writedowns and build
> adequate risk capital over time.
>
> I am now more concerned that a double dip would jeopardize this.
>

2009 Nov 24 12:56 PM

[Fliujniligui]

I saw somewhere that this took June 2009 balance sheets. DB with its 1.3 billions Earning should have boosted its ratio near 7% now. And others have mostly earned cash during this time. I think what is to be done is to say Okay, old system do not work well. In 2015 you need more than 8% Tier 1 calculated upon new norms and reporting during 2009-2015 will include ratios on old and new system.

2009 Nov 25 06:37 PM

[BobGeorge]

You must be joking "As Barack Obama pushes forward with his deficit reduction scheme"; Obama and Nancy Pelosi are spending money as fast as it can be printed and will continue to do so. A politicians duty is to get elected and re-elected. You do not get re-elected by reducing spending and promising less.

2009 Nov 26 10:04 AM