By Emma Charlton
BRUSSELS (MNI) — Confidence in Europe’s fragile economic recovery
hangs in the balance Friday, as investors eagerly await the results of
stress tests of 91 European banks.
The banks being tested constitute 65% of the European Union’s total
banking assets.
The Committee of European Banking Supervisors (CEBS) will release
the stress test results today at 16h00 GMT (12h00 EDT) — a move
designed to shore up investor confidence in the EU banking sector and
hopefully allow many banks to regain access to money markets rather than
relying on the European Central Bank for refinancing.
Statements from each national supervisor and the banks themselves
will follow the main CEBS announcement, together with action plans for
banks that fail the test.
Europe’s policymakers hope that publication of these results will
have the same effect as a similar exercise conducted in the United
States last year, which prompted 10 banks to raise additional capital
and was widely credited with giving the sector a much-needed boost.
Olli Rehn, the European Commissioner for Economic and Monetary
Affairs, said earlier this month that the tests were likely to show some
“pockets of vulnerability” but that they would be dealt with “swiftly
and promptly.”
Key areas of market concern include unlisted German and Spanish
banks — which investors fear need boosts in capital — and Greek banks,
which are thought to have too large an exposure to Greece’s sovereign
bonds.
In Spain, the savings banks, or “cajas,” are thought to be the most
at risk. In Greece, five of six banks being tested are expected to pass,
according to press reports. The Agricultural Bank of Greece is
considered at risk.
Germany’s state-owned bank, Hypo Real Estate Holding AG,
nationalised during the financial crisis, is widely expected to fail the
test because it holds a lot of sovereign debt from high-risk countries
like Spain, Portugal and Greece.
A report in the Frankfurter Allgemeine Zeitung late Thursday said
that Germany’s state-owned Landesbanks, considered by many analysts to
be vulnerable, have all passed the test. Somewhat ironically, the weaker
Landesbanks — or at least the ones that admitted their weakness —
performed better than their counterparts because they received capital
infusions from regional governments and from Germany’s financial sector
stabilisation fund, SoFFin.
Other banks in Portugal, Spain and Ireland could also fail,
analysts said. However, they emphasized that the market was more likely
to focus on banks that pass but are still considered a risky play, and
on the methodology that allowed those banks to pass.
METHODOLOGY IN FOCUS
“If the stress tests are seen as weak then they would lose their
credibility, and if they are too harsh then the currency markets could
be spooked, making a fragile situation even worse,” said Mark
O’Sullivan, a strategist at foreign exchange firm Currencies Direct.
CEBS has said that it tested to see how the banks would cope if
European Union gross domestic product were three percentage points lower
than the European Commission’s forecasts over the period 2010-2011. The
Commission is forecasting growth of 1% this year and 1.75% next year,
which means the testing scenario would be only for a slight cumulative
contraction in GDP over that period of 0.25%. Many analysts don’t
believe that is a severe enough criteria.
CEBS has not yet said what parameters it used when testing for
possible sovereign debt losses.
Some investors think the tests won’t be credible unless they prove
that the banks could withstand Greece defaulting on its debt. Earlier
this year, Greece was bailed out to the tune of E110 billion by its
Eurozone partners and the International Monetary Fund after being
virtually frozen out of financial markets because its budget deficit
turned out to be much higher than originally reported.
Now, high debt and/or deficit levels in other countries like Spain
and Portugal have raised investor fears that at least one of these
countries could default on its sovereign debt, leaving many of Europe’s
banks holding a bag of severely impaired assets.
How much of this was factored into the tests remains to be seen.
Different business models and funding structures in each of the
EU’s 27 members could also affect the results.
“The banking systems in Spain, Italy and the Netherlands are highly
credit-intensive, with ratios of loans to total assets well above the
Eurozone average,” noted Loredana Federico, an economist at UniCredit
Research.
“Conversely, the French and German banking sector have a
significantly higher share of debt securities and other market risk
assets; the extent to which that makes them vulnerable to sovereign debt
stress depends on the composition of their debt assets,” he added.
Transparent disclosure remains a key issue, as investors need to
feel they’ve been given enough details to be confident that Europe’s
banks are no longer hiding anything.
UK Chancellor of the Exchequer George Osborne in a visit to
Brussels last week stressed the need for transparency to make the tests
credible.
The International Monetary Fund, too, recommended “full disclosure
of the findings and effective follow up,” in a text published this week.
“Worryingly, the methodology of the tests remains shrouded in
mystery,” economists at UBS said in a note to investors.
“The tests have to be 1) transparent, 2) credible and 3) backed up
with quick supportive action,” UBS economists said. “None of the three
criteria for successful tests are likely to be fully met and we would
therefore expect to ultimately get a negative market reaction,” they
concluded.
–Brussels: 0032 487 (0) 32 803 665, echarlton@marketnews.com
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