Europe Banks Vow $1 Trillion Cuts

But selling assets may be difficult in current markets, which could limit shrinkage.

European banks, assuring investors they can weather the sovereign debt crisis by selling assets and reducing lending, may not be able to raise money fast enough to prevent government-forced recapitalizations.

Banks in France, the U.K., Ireland, Germany and Spain have announced plans to shrink by about 775 billion euros ($1.06 trillion) in the next two years to reduce short-term funding needs and comply with tougher regulatory capital requirements, according to data compiled by Bloomberg. Morgan Stanley predicts that amount could reach 2 trillion euros across Europe by the end of next year as banks curb lending and sell loans and entire businesses. A lack of buyers and the losses lenders face on loan sales are making those targets unrealistic.

“Asset sales are impractical in the current environment,” said Simon Maughan, head of sales and distribution at MF Global UK Ltd. in London. “Every bank is selling, and no bank is buying. It just won’t work. Beyond that, the magnitude of the cuts the banks are talking about is nowhere near the likely required amount of deleveraging. They need to reduce hundreds of billions more to adjust to the new world order. There has to be a recapitalization.”


 
Boosting Capital

European Union leaders are seeking to boost bank capital as investors prove reluctant to provide short-term funding, in part because of concerns that lenders face more writedowns of sovereign debt from Greece and other southern European nations. They may require that banks increase core capital to 9 percent of risk-weighted assets from 5 percent within six months, seven years ahead of the target set by the Basel Committee on Banking Supervision, according to a person with knowledge of the plans.

Banks in Europe may need 100 billion euros to 230 billion euros of additional capital to meet the requirements, according to estimates by Morgan Stanley and JPMorgan Chase & Co. Those that can’t raise cash through share sales would be required to take capital from their governments or the EU and may face curbs on paying bonuses and dividends, European Commission President Jose Barroso said Oct. 12.

European leaders will consider the plans at a meeting in Brussels Oct. 23.


 
Ackermann, Botin

Banks, whose shares as measured by the 46-member Bloomberg Europe Banks and Financial Services Index have fallen 30 percent this year, oppose the plan partly because it would dilute the value of existing shares. In addition, Deutsche Bank AG’s Chief Executive Officer Josef Ackermann and Banco Santander SA Chairman Emilio Botin say capital injections won’t address the real problem, which is sovereign debt.

“Since private investors will certainly not be providing the funds for such a recapitalization, governments would ultimately have to raise such funds themselves, thus only exacerbating their debt situation,” Ackermann, who’s also chairman of the Washington-based Institute of International Finance, said at a conference in Berlin on Oct. 13.

Avoiding government aid may require reducing balance sheets, he said. Such shrinkage would help lenders meet revised capital ratios.

The EU proposals “will produce a contraction of credit since many institutions will opt to reduce their balances,” Botin said in a speech at Santander’s headquarters outside Madrid yesterday.


 
Shares Rise

The Stoxx Europe 600 Index added 1.07 percent at 11:50 a.m. in London and the euro strengthened 0.7 percent to $1.3847 today amid speculation leaders will stem the region’s debt crisis. Analysts partly attributed stock gains to a Guardian newspaper report that said Germany and France agreed to boost the region’s rescue fund to 2 trillion euros, even after a person with direct knowledge told Bloomberg News no deal has been reached. Moody’s Investors Service cut Spain’s credit rating yesterday for the third time in 13 months.

French lenders BNP Paribas SA, Credit Agricole SA and Societe Generale SA, whose share prices have fallen 35 percent, 47 percent and 51 percent respectively this year, were the latest to announce asset reductions after investors shunned their stocks in August on speculation France was facing a credit-rating downgrade and concerns that the banks were too reliant on short-term funding.


 
BNP Cuts Assets

BNP Paribas, France’s largest bank, said on Sept. 14 it will reduce risk-weighted assets by about 70 billion euros by the end of next year. This amounts to about 200 billion euros in gross assets, or about 10 percent of the lender’s balance sheet, according to estimates by Christophe Nijdam, a Paris-based AlphaValue analyst. It will include sales of investment-banking operations outside Europe, the bank said.

Societe Generale, the country’s third-largest lender by assets, said this month it will cut as much as 80 billion euros in risk-weighted assets by 2013, including 40 billion euros through asset disposals. This will decrease funding needs by as much as 95 billion euros, the bank said. The reduction amounts to about 150 billion euros in gross assets, said Nijdam.

Credit Agricole said it would cut as much as 52 billion euros in funding needs by the end of 2012, which equals about 30 billion euros in gross assets, according to Nijdam.


 
‘On a Diet’

“French banks had three years to downsize their balance sheet, and they’ve done little,” Nijdam said in an interview. “Today they don’t have the choice. They were so attacked this summer over their liquidity needs that the French regulator pressed them to go on a diet. And they want to avoid equity injections that would feel very punitive for their existing shareholders.”

BNP Paribas had 1.93 trillion euros of gross assets as of June 30, compared with 2.08 trillion euros on Dec. 31, 2008, before purchasing Fortis’s Belgium and Luxembourg assets in 2009. Societe Generale had 1.16 trillion euros in assets in June, up from 1.13 billion euros at the end of 2008. Both banks say they can meet new Basel capital requirements.

“We’ve got a perfectly precise route plan to reach the level of shareholders’ equity corresponding to the new rules,” BNP Paribas CEO Baudouin Prot said Sept. 21 on France’s Radio Classique. Carine Lauru, a spokeswoman for Paris-based BNP Paribas, said the bank would be able to comply with Basel capital requirements six years ahead of schedule.

The bulk of the banks’ deleveraging, which could reach 5 trillion euros in the next three to five years, will come from running off lending rather than selling assets because of the lack of buyers, according to Alberto Gallo, head of European credit strategy at Royal Bank of Scotland Group Plc.


 
‘Uncertainty Is High’

Potential buyers of bank assets such as insurance companies don’t have the means to invest significantly, while others such as U.S. banks and sovereign wealth funds may be wary of making acquisitions in Europe, Gallo said.

“Uncertainty is high, buyers are conservative, valuations low and the pool of potential buyers is restricted because private equity has limited access to leverage,” Malik Karim, CEO of London-based Fenchurch Advisory Partners, which provides corporate-finance advice, said. “Selling your best business units may be feasible at attractive prices, but banks will need to decide how they will replace quality earnings, which underpin their dividends, an equity story and share prices.”

U.K. and Irish banks have been shrinking their balance sheets with mixed success since they were bailed out in the 2008 financial crisis.


 
RBS Shrinks

Royal Bank of Scotland, which received 45.5 billion pounds ($71 billion) in government funding, has cut about 1 trillion pounds from its balance sheet since 2008 to 1.4 trillion pounds at the end of the second half of 2011, said Sarah Small, a spokeswoman for the bank.

The sales include the European and Asian operations of commodities-trading business RBS Sempra to JPMorgan Chase for $1.7 billion, credit-card payment unit WorldPay to private-equity buyers Advent International Corp. and Bain Capital LLC for 1.7 billion pounds, and more than 300 branches to Santander for about the same amount.

RBS plans to sell or wind down another 113 billion pounds, Small said, including Churchill and Direct Line insurance units and aircraft-leasing operation RBS Aviation Capital.

“It’s obviously not the best market, but there are certain types of assets that will find buyers,” said Andrew Nason, a senior banker advising financial institutions at Societe Generale in London. “Banks may be able to sell custody assets and asset-management businesses, which have not been as badly affected by the downturn.”


 
Lloyds’s Sales

Lloyds Banking Group Plc, which received 20.3 billion pounds in a government bailout, said on June 30 it had cut 48 billion pounds from its balance sheet since 2009, taking it to 979 billion pounds. The U.K.’s biggest mortgage lender has attracted only one formal bidder, NBNK Investments Plc, for a sale of 632 branches. The 1.5 billion-pound offer is 1 billion pounds short of the 2.5 billion pounds the bank had sought to raise. Lloyds plans to reduce non-core assets by at least an additional 72 billion pounds by the end of 2014, said Sarah Swailes, a bank spokeswoman.

Other European lenders also have found it difficult to sell assets. UniCredit SpA, Italy’s biggest bank, in April abandoned an effort to find a buyer for Pioneer Global Asset Management SpA. KBC Groep NV, Belgium’s largest lender and insurer by market value, couldn’t get regulatory approval in March to sell its private-banking unit to India’s Hinduja Group for 1.35 billion euros. It announced a new buyer on Oct. 10 from the Middle East for 1.05 billion euros.

German lender Commerzbank AG, which is to disclose an asset-reduction target next month, still needs to find a buyer for its Eurohypo mortgage unit to satisfy EU antitrust regulators following its 2008 bailout.


 
Loan Portfolios

Banks also have had mixed success with loan portfolios, often selling at discounts. Bank of Ireland Plc said this week it had agreed to sell 5 billion euros of U.S. and U.K. real- estate assets at 9 percent below face value. Anglo Irish Bank Corp. and RBS said they are close to completing loan-book sales.

Other European banks have been unwilling to sell loans that are booked at a higher value than what buyers, mostly private-equity firms and hedge funds, are ready to pay, said Richard Thompson, a partner at PricewaterhouseCoopers LLP in London, which advises banks or buyers on those transactions.

“Selling loans reduces the size of the balance sheet, but quite often you’re selling to a financial investor, who’s asking for a big discount because its return requirement is greater than the return requirement of the bank holding the assets,” Thompson said. “This simple difference in cost of capital generates a loss.”


 
U.S. Buyers

Irish banks, which were ordered in March to offload about 70 billion euros in assets by 2013, have been able to sell loans at losses because they have been recapitalized, he said.

European banks have about 1.3 trillion euros of non-core loans on their balance sheets, PwC estimated in April. Lured by the prospect of buying those portfolios at discounts, U.S. hedge funds and private-equity firms such as New York-based Apollo Global Management LLC have raised about $7 billion for funds targeting European distressed assets since 2009 and are seeking another $7 billion, compared with about $400 million during the 2002 recession, according to London-based researcher Preqin Ltd.

“The expectation when the financial crisis came about in 2008 and 2009 was there would be lots of opportunities to choose from,” said Dilip Awtani, a managing director responsible for distressed investments in Europe at Los Angeles-based private-equity firm Colony Capital LLC. “But that didn’t materialize. There’s a huge price gap currently. A lot of the banks in a position to default or fail didn’t and are still around because the government supported them. We’ll see whether banks have gotten realistic about the pricing it will take for them to lighten their books.”


 
Wholesale Funding

European banks need to cut more assets than they are announcing to wean themselves from their reliance on wholesale funding, MF Global’s Maughan said. Of the 1.1 trillion euros in total funding required by euro-zone banks through next September, about 60 percent will come from the short-term money markets, Roger Francis, an analyst at Mizuho Securities Co. in London, said in a note to clients on Oct. 7.

“Banks think the funding costs will go back to the way they were as if by magic,” Maughan said. “But they will not, not in my lifetime, because the implicit sovereign guarantee of banks’ balance sheets is gone.”

 

 

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