Involuntary asset growth, we dare say, could become the next big news catchphrase, for it describes the current crisis facing most banks; massive, uncontrollable increases in troubled, illiquid assets on their balance sheets.
Citi have coined the term in a research note published Friday on European banks; titled simply and ominously, “Creaking”.
For European financial institutions, say Citi’s banking research team, an unwanted €450bn is heading onto (or already on) balance sheets.
…whilst the response to the credit crunch might be to force deleveraging across the sector, banks, ironically, are currently facing substantial releveraging pressures. We estimate that the combined effect of ABCP conduits coming onto balance sheets, SIVs being restructured, “hung” leveraged loans and a hiatus in the securitisation market could result in almost €450bn of involuntary RWA growth for the European bank sector.
This is, of course, the broad end of the wedge. On the other end is all that news of CDO super-senior conduits, SIVs going into defeasance and securitisation markets closing.
Involuntary asset growth say Citi, will mark the onset of the “true credit crunch”. And the scale of the crisis is only just becoming known to the banks themselves.
Here’s a fascinating table of what Citi see that risk weighted asset expansion breaking down into (final column, in particular):
Perhaps, obviously, the biggest impact for banks will be the collapse of the securitisation market and the collapse of the ABCP market. But both are worth revisiting, not just for the sake of number crunching, but also to assess the impact for specific banks.
In terms of securitisation, again it’s the UK’s banks which stand to suffer most. The graph below from Citi estimates the current “best guess” of banks’ funding reliance on securitisation:
To read it another way, the above graph demonstrates which business models are going to suffer most – or at least, might need to change most. Of course, this isn’t to say the above will all suffer. Different banks will be trusted for different reasons by ABS investors. And demand for securitised products may well pick up again later this year.
Turning to ABCP markets then (which, as FT Alphaville reported earlier, have perked up a little over the last week). European banks, point out Citi, have a peculiar dependence on ABCP, accounting as they do for 70 per cent of the liquidity backstops in the massive ABCP market:
We attribute European banks’ greater appetite for ABCP funding to the regulatory environment they adhere to: European banks – primarily focused on Basel I rules – took advantage of the fact that ABCP back-up lines were allocated a zero risk-weighting. As a consequence, they used self-sponsored ABCP conduits as a capital arbitrage tool to improve the efficiency of their balance sheets. For US banks – where the regulator typically focuses on total, as opposed to risk-weighted, assets – this never held the same attraction since the back-up line was included in the total asset calculation.
In all, along with SIVs coming on to balance sheets and the choking in the leveraged loan pipeline, it’s not looking rosy for the European banks. UBS’s recent recapitalisation, though dramatic, was not a “bolt from the blue” says Citi. The sector is fragile, and the implication is that other banks will have to follow UBS’s lead. In particular, the biggest problems will be felt in two areas: The UK, and the Nordic regions.
Citi picks 10 banks to avoid:
