The credit crisis followed by the recession triggered many bank failures and forced mergers worldwide. As a result of these mergers, some of the banks which were already larger became larger in size creating the so-called “superbanks”, especially in the U.S. These banking giants hold assets in excess of Trillions of Euros or US Dollars.

The following graphic from The Wall Street Journal shows the European banks with assets in Trillions of Euros in the first half of this year:

The "too big to fail" concept in the banking industry that has been embraced by U.S. is also held true in Europe. European governments as well tend to support large banks that are important for the financial system. When smaller banks run into trouble they are left to die or forced to be taken over by bigger rivals. So in one sense, when it comes to investing in European banks , it may be wiser to first pick the large systematically important banks.

One way to identify such large European banks is to review the components of each country's main stock indices. Following this logic, lets take a look at the banks from the 3 main European stock indices.

While it’s great to have big plans for the future, in the case of some bank CEOs you can’t help but feel they are sometimes swimming a little out of their depth. Ken Lewis, Bank of America’s (BAC) chief executive and former chairman is a prime example.

The largest of the European Union (EU) banks fell more than their US peers in the recent credit crisis, since their leverage ratio and the exposure to market risk was higher. Many European bank stocks such as ING Bank (ING), Royal Bank of Scotland (RBS), Societe Generale (SCGLY.PK), Commerzbank (CRZBY.PK) and Lloyds Bank (LYG) fell sharply last year and through March of this year. For many investors, this was a big shock since they assumed that European banks were not involved heavily in the sub-prime mess.

If banks have high leverage ratios, then their capacity to absorb losses becomes less. The leverage ratio for the financial sector in the Euro area increased to about 70% of the GDP between 1999 and 2007. But in the U.S. this ratio grew to only 40% during the same period.

Last month we reviewed the Tier 1 Capital Ratios of Large US Banks. Most of them had Tier 1 ratios in the 10% range based on data from first quarter. Today let's take a look at the Tier 1 ratios of large European banks:

Note: The data shown here is the latest available from company websites. It may reflect end of 2008 or Q1 2009 earnings report. All data is known be accurate but please do your own research before making investment decisions.

By Paul Amery

With equity markets well above their March lows, and decent earnings reports announced by Goldman Sachs (GS) and JP Morgan (JPM) last week, is the worst over for the financials sector? And how do the main European ETF issuers rank by credit spreads?

Commerzbank (CRZBY.PK) had an initial lift from good news on Tuesday. “The German government plans to loosen capital rules which will help financial institutions.” reported Reuters. The change should help Commerzbank, as it has weak asset quality. It should also bolster its capital ratios which in turn will help the bank increase lending volumes.

The short base for Commerzbank (as measured by Percent Shares Outstanding on Loan) has risen 11.23% over the past month and now stands at 9.71%. This is roughly 8% below the 52 Week high of 10.59% which was hit on April 3rd 2009. The short base for Commerzbank is higher than other German Financial companies; Deutsche Postbank (2.1%), Deutsche Bank (DB) (6%) and Allianz (AZ) (3.5%).

After a rocky start following on from equity weakness in Asia and Europe, US stocks ground higher following a better than expected read on the ISM’s June non-manufacturing (services) index of activity.

What strikes me as curious is that commodities and equities are telling two different stories with notable weakness in crude, oil, gold and copper prices yesterday pressuring producers, refining and mining stocks as the re-flation trade gets pricked and traders realise how much the prices of these stocks got ahead of themselves. After the bell last night Discover Financial Services (DFS) (a credit card company) announced a $500m rights issue. This may pressure the market at the off today.

Despite the weakish US mortgage applications, ADP jobs and ISM numbers, it looks like your friendly fund manager is front running the perma-bull, expected 2nd half recovery green shoots story. He also went piling into stocks at the off yesterday running the Dow up 133 points. Food stocks were the big winners with Kraft (KFT) up 5% and General Mills (GIS) raising its 2010 guidance. However stocks failed to maintain their upward momentum and pared their gains in low volume trading, following decidedly downbeat comments from GM (GMGMQ.PK) (government motors) about creditor payments, weakness in financials and disappointing auto sales. Add to this too, the Governator I.O.U of California declaring a state of “fiscal emergency” put the pressure on.

Note that the technical types are pointing to a potential head and shoulders topping pattern on the S&P 500 and stress that a close below 880 would complete this and pave the way for a move to the low 800s

Last week I wrote a post suggesting that the Germans were getting tired of bailing out their banks and had moved to more draconian solutions to 'fix' the banking sector. Nationalizing Hypo Real Estate (HREHY.PK) (HRE) this week will be the first move in that direction.

But the Germans are not nearly finished in their effort to clean house. Next on the list are the state banks, the Landesbanken.

The first bank nationalization in German history is about to take place. At issue is Hypo Real Estate [(HREHY.PK), (HRE)], a troubled Munich-based company that lends to commercial property developers and to build offices, hotels, roads, airports, you name it.

This issue has been building for nearly 7 months. Back in late September, just after Lehman went under, the Germany government was forced to bail HRE out as it ran into funding problems at its Irish subsidiary, Depfa. Since then, the situation at HRE has gotten considerably worse. Cognizant that it had a Lehman situation on its hands, the German government went so far as to change the laws to allow it to nationalize HRE. This is about to happen.

Below we highlight the current CDS prices (in dollars) for major banks and brokers around the world. The prices represent the cost per year to insure $10,000 worth of debt for 5 years. As shown, Citigroup (C) and American Express (AXP) currently have the highest default risk at more than $600. The next highest CDS price is Morgan Stanley (MS) at $364, followed by Bank of America (BAC), UBS, and Wells Fargo (WFC). Citi and Bank of America (BAC) have seen default risk rise the most this year, while Deutsche Bank (DB), Morgan Stanley, Credit Suisse (CS), and Goldman Sachs (GS) are the only firms that have seen default risk decline in 2009.

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At Bespoke Premium, we created an index that measures default risk for the global financial sector based on CDS prices for a number of banks and brokers. We highlight this index on a regular basis so members can keep a close eye on the numbers, which are very important to follow in the current market environment.

Below we highlight a table of the current CDS prices for a number of global banks and brokers along with the recent change in their stock prices. The CDS prices represent the cost per year to insure $10,000 worth of debt for five years (or 10,000 euros for European firms). As shown, default risk for Citi (C) and Bank of America (BAC) are up by far the most year to date at +200%. Not surprisingly, their stock prices are also down the most. American Express (AXP) and Wells Fargo (WFC) have had the 3rd and 4th biggest spikes in default risk at around 140%. However, AXP is down much less than Citi, BAC, and WFC this year.

In one of my earlier newsletters, I pointed out that Citigroup Inc. (C) and Citadel Investment Group LLC hired the huge international law firm Clifford Chance LLP to attempt to seize the assets of bankrupt FerroChina. It is estimated that FerroChina owes over a billion dollars and the creditors hope to recoup $130 million of bonds due in 2011 and $160 million of loans. If they are lucky they will collect as little as 3%.

The Global Finance magazine has announced this year’s winners for the best banks in 24 developed countries. Ireland and Iceland were left out from this contest.

As per the editors of this magazine: