Peripheral Europe — not just a European problem.
Statistics revealed by the Bank for International Settlements earlier this week showed European banks holding 64 per cent of reported foreign claims for troubled eurozone countries like Portugal, Ireland and Greece. But in terms of indirect exposure — things like CDS — US banks take pole position.
The below sent in by Sean Corrigan at Diapason Commodities:
For simplicity, ‘CDS’ in the above equates to the guarantees figure in the BIS stats so some of it will be stuff other than CDS (and yes, in typical cheeky fashion, Corrigan has included the UK in the last line).
… First, US and European financial institutions are likely to have very different incentives as negotiations regarding debt restructuring and reprofiling proceed. US banks and insurance companies are surely delighted with the “soft restructuring” that is currently being discussed. Such a partial default would probably not trigger default insurance payments, and so the pain would be borne almost exclusively by European institutions. On the other hand, some time soon it seems likely that European creditors will begin to prefer a “hard restructuring” that would require default insurance payouts from the US institutions that sold such insurance …
Update: A very important update — especially in light of stories like this.
On Tuesday we reported that US banks hold something like 64 per cent of ‘indirect exposure’ to Greece. We’ve drilled down into the BIS figures now and have more detail. The main table to focus on is this one. In simple terms it’s an attempt by the BIS to explain who has what counterparty exposure to Greece.
Other potential exposures is the one to focus on here — derivatives, guarantees and credit commitments, since it was the category that appears to have been (mis)translated to ‘indirect exposure’ by the Street Light blog.
Let’s focus on the derivatives category for a second. Here’s the definition from the BIS:
Only derivative contracts which give rise to a counterparty risk exposure are reported; thus, derivatives exposures are calculated as the positive market value of outstanding contracts.10 Derivatives exposures include contracts covering all types of risks: foreign exchange, interest rate, equity, commodity and credit risks. However, credit protection bought to hedge an outstanding claim is classified as a risk transfer, and any credit protection sold is classified as a guarantee.
10 Contracts which have negative market value are classified as liabilities and so are not reported. The reported measure of derivatives exposures takes into account legally enforceable bilateral netting arrangements but not collateral.
12 The face value of protection sold through credit derivatives is also recorded as a guarantee.
So the derivatives category covers a huge amount of different types of derivatives, one of which will be a subset of CDS. But CDS that are used by a bank to hedge, show up in the ‘net risk transfer,’ though even that figure also isn’t just CDS alone.
Markit’s Lisa Pollack explains it a little more clearly:
A huge amount of derivatives fall under [the other potential exposures] category, not least of which are forwards, interest rate swaps, and plenty in between. CDS will also be here, but only if they are “held-for-trading” and involve protection-buying. So overall this category is measure of counterparty exposure between entities in different countries, as it pertains to derivatives (that aren’t covered by other categories). If banks hold CDS positions to mitigate their risk exposure (at an entity level rather than to balance a trading book as part of the ordinary course of business), those positions won’t show up here. They’ll be offset against the claims section that is above this one, as they show up in the overall net risk transfer figures that are in Column Q in Table 9A.
And here’s Table 9A:
Just to be super clear, we’re going to quote the BIS here: “net risk transfers are the difference between inward and outward risk transfers. A positive net risk transfer towards a country X implies that banks’ risk exposure to that country has increased, either because X has provided a guarantee for country Y’s borrowing or because it is home to the headquarters of a branch’s overseas operations. In either case, country X is the counterparty ultimately responsible for repayment of the debt.” Got it? Good.
Unfortunately the BIS data gets even more confusing here:
Column Q on net risk transfers refers to the amounts outstanding of contractual claims which have been reallocated from the country of the immediate counterparty to that of the ultimate borrower as provided by 26 of 30 reporting countries. In principle, the country of the ultimate counterparty (or of ultimate risk) is considered to be the country where the guarantor of a financial claim resides or where the head office of a legally dependent branch is located. However, this definition is not yet consistently applied by all countries. In some cases the data exclude guarantees, while in others they also include claims on legally independent subsidiaries, without any explicit guarantee being given.
If you’ve learned anything from this, it should be that it’s totally unclear, viz the BIS data, how much CDS US banks have written on Greece. And also that BIS data are fiendishly difficult to interpret.
And probably fiendishly difficult for the BIS to collect too. From page 100 of the statistical annex:
Claims of Spanish banks, mainly vis-à-vis Portugal, are currently under review and are subject to revisions.
Go forth and analyse.