Quelle Surprise! Most Big Banks Lack Capital

By Edward Harrison of Credit Writedowns

My post title is an ode to Yves Smith, who likes to feign surprise when the blindingly obvious finally comes into plain view for all to see. The latest sign that underneath the surface weakness remains at large financial institutions comes courtesy of Standard & Poors. According to the Telegraph’s Ambrose Evans-Pritchard, S&P believes many are horribly short of capital.

Every single bank in Japan, the US, Germany, Spain, and Italy included in S&P’s list of 45 global lenders fails the 8pc safety level under the agency’s risk-adjusted capital (RAC) ratio. Most fall woefully short.

The most vulnerable are Mizuho Financial (2.0), Citigroup (2.1), UBS (2.2), Sumitomo Mitsui (3.5), Mitsubishi (4.9), Allied Irish (5.0), DZ Deutsche Zentral (5.3), Danske Bank (5.4), BBVA (5.4), Bank of Ireland (6.2), Bank of America (5.8), Deutsche Bank (6.1), Caja de Ahorros Barcelona (6.2), and UniCredit (6.3).

While some banks may look healthy under normal Tier 1 and leverage targets, critics claim these measures can be highly misleading since they fail to discriminate between high-risk and low-risk uses of leverage. The system failed to pick up the danger signals before the financial crisis. The supposedly moderate leverage of US banks in 2007 proved to be a spectacularly useless indicator.

This shouldn’t come as a shocker. Recently, I mentioned that Citigroup was well-capitalized according to standard metrics due to government bailout money. But questions linger about whether this profile masks large holes in Citi’s balance sheet.  Irrespective, Credit Suisse believes that regulatory hurdles for Citigroup will restrict its earnings potential. The S&P article bears this out.

S&P has shifted to a tougher code. It is less tolerant of hybrid capital – a liability rather than an asset, and no defence in a crunch – and insists that banks must quadruple capital put aside to cover trading desks. Private equity exposure will be treated more harshly.

The Bank for International Settlements unveiled its own version in September. The regulatory framework worldwide is clearly shifting in this direction, a move that will hit some banks harder than others. "We expect banks to continue strengthening capital ratios over the next 18 months to meet more stringent requirements. Failure to achieve this could put renewed pressure on ratings," said Bernard de Longevialle, S&P’s credit strategist.

If S&P understands the weaknesses masked by measures such as Tier 1 capital or even tangible common equity as proxies for bank health, I suspect national regulators do as well.  However, the recovery to date has been built on the back of avoidance of this unpleasant fact lest we risk a renewed bout of panic and another downturn.  Under no circumstances do policy makers want large financial institutions to be subject to tougher regulations before they have rebuilt capital via government purchases of toxic assets, government backstops, low interest rates, and a steep yield curve.

Tougher rules at this juncture may prove "pro-cyclical", if banks respond by cutting loans. This may perpetuate the credit crunch for smaller borrowers unable to tap the bond markets. "There is a risk that the increase in regulatory capital requirements could weigh on banks’ ability to finance recovery," said Mr de Longevialle.

Below is a list of the safest institutions according to S&P.  While I expected to see HSBC and Standard Chartered on the list, Santander is a notable absence.  Also a bit surprising, Deutsche Bank, generally deemed to have weathered the storm (despite large CRE exposure), is one of the weakest, not the strongest. I never would have expected Dexia, ING and Barclays to be on the list of strongest. And Nordea still has large exposure to the Baltics. But ING and Dexia have received large bailouts from the Benelux governments. See my list of bank writedowns for specific events by institution.

The "safest" global bank is HSBC (9.2), followed by Dexia (9.0), ING (8.9) and Nordea (8.8). UK banks fare relatively well: Standard Chartered (8.1) is in the top quintile; Barclays (6.9) is in the middle. The study left out RBS and Lloyds because their status is unclear. Chinese banks – the world’s largest – were excluded.

On the whole, this report leaves me more convinced than ever that a double dip recession would tip us into a 1931-style panic. When I make the Obama-Hoover analogy, this is what I am referring to. As Barack Obama pushes forward with his deficit reduction scheme, perhaps 1931 should be top of mind more than 1937 — or 1994 as seems to be the case for him.


Most global banks are still unsafe, warns S&P – Ambrose Evans-Pritchard, Telegraph

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About Edward Harrison

I am a banking and finance specialist at the economic consultancy Global Macro Advisors. Previously, I worked at Deutsche Bank, Bain, the Corporate Executive Board and Yahoo. I have a BA in Economics from Dartmouth College and an MBA in Finance from Columbia University. As to ideology, I would call myself a libertarian realist - believer in the primacy of markets over a statist approach. However, I am no ideologue who believes that markets can solve all problems. Having lived in a lot of different places, I tend to take a global approach to economics and politics. I started my career as a diplomat in the foreign service and speak German, Dutch, Swedish, Spanish and French as well as English and can read a number of other European languages. I enjoy a good debate on these issues and I hope you enjoy my blogs. Please do sign up for the Email and RSS feeds on my blog pages. Cheers. Edward http://www.creditwritedowns.com


  1. Hugh

    Thanks for this post. I think the failure of the recent reverse repo experiment of the Fed accords with this view. All of the banks remain in a bad state and are probably insolvent, but as they are allowed to cook their books I don’t know what it means to say that some are in relatively better shape than others. What the S&P report confirms is that the overall condition of the banking system even after the trillions poured into it is poor.

  2. Chris Kent

    Wow, what a great post. “Hybrid Capital” needs to be better defined, but I assume this means convertibles, preferred, and other more complex forms of capital that could be viewed as either equity or liability depending on the terms. I wonder how S&P views government subsidies in this whole analysis…?

  3. MyLessThanPrimeBeef

    I thought you could get more mileage out of hybrid capital than regular or conventional capital?

    Hey, let me move some of my green stuff into that hybrid capital!

  4. Simon

    People still refer to S&P ??? Exactly why are they considered reliable about anything anyway? Has no one put their hand up and said hey! we can do that too and whats more we care about the truth?

  5. Doug Terpstra

    The CRE exposure Edward noted, when combined with the coming second tsunami of residential reset defaults and attendant credit card defaults, makes the quiet beach and abnormally low tide look truly terrifying.

    As Cusack’s character says in the movie “2012”, “When the government tells you not to panic, that’s when you RUN!”

    Today, John P. Hussman in “Alert for Tanks” (http://www.hussman.net/wmc/wmc091123.htm) compares the coming wave of prime resets to the impossible debt-to-income structure of the dot-com crash, with failure baked into the cake. The Fed and Treasury seem to see it coming too, witnessed by the Fed’s transition to buying trash without even a buyback provision—to Hussman, a clear violation of its charter. Can we just call it a crime, or would that entail prosecution and punishment? Not forward-looking enough? Eventually all this pissing on the taxpayer is going to cause a widespread trickledown in lawlessness.

  6. eh

    Finally something I have in common with big banks.

    Maybe the banks should borrow some money from the guys who run them — they all seem to have plenty.

  7. Kahuna

    S&P is trying to cover its backside. How is it that they believe that Citi’s regulatory capital ratio misleads by a factor of 6 and still, they maintain their rating. Are we to believe that a base model can be adjusted by a factor of 6 on the basis of some non-specific “qualitative adjustments”?

    I think S&P knows very well these banks are insolvent but is compelled to maintain their rating due to business consideration (they need the fees) and the Geithner jaggernot (already in hot water with the government).

    This is just a ploy to claim that they warned us once the banks implode. Come S&P, redeem yourself – “Say it”. The truth shall ….

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