By Richard Smith, a capital markets and IT consultant
There was some really strange stuff going on last week.
First, Citi got in a right old tangle.
Monday: Citi announce share sale. Pretext: TARP escape.
Wednesday: the share sale falls through.
Wednesday: it also emerges that the IRS has been quite kind (or at least 2/3rds kind since USG owns a third of the stock) about Citi’s deferred tax assets – they will be allowed to keep them – and they count as Tier 1 Capital under Basel II).
Thursday: Basel II bins deferred tax assets as regulatory capital , so Citi face the prospect of raising another $40Bn in addition to the shares they didn’t sell on Monday. And they are still stuck in the TARP.
Now, the conspiracy theorist interpretation of this is that Citi or US Treasury got a whiff of the Basel III rulings, tried to get a sale away, (before investors realised that if they bought in they’d be diluted yet again as some point by the fundraising required when the DTAs get binned), and then got snubbed by equally well informed investors on Weds. Kind of self-cancelling insider trading.
Second, banks will soon have a VERY big equity hole!
Haven’t seen any analysis of how the new Basel bank capital calculations would affect US bank regulatory capital but if Credit Suisse’s back of an envelope calculation is right for Eurobanks (they will need EUR 1.1 Trillion of extra capital of one sort or another), then a crude read-across is that American banks need another $400Bn of capital, of one sort or another. I am ignoring ridiculous basket cases like Citi. This is based on Eurobanks representing about 50% of the world banking asset base, with US banks acounting for another 15%, and on the assumption that US and Eurobanks have been gaming their capital requirements so the same overall extent. (Yves comment: the assumption in the US is that US banks are further along on their writedowns than the Eurobanks are, but given that the US banks just got an expected break from the FASB re not having to implement a rule change that would have required them to consolidate their off balance sheet entities, that cheery assumption may not include those lovely “qualified special purpose entities”).
In another part of the Basel III forest, the document is very keen for OTC derivatives to be traded on an exchange. It doesn’t distinguish between CDS and other derivatives such as swaps, so I take this as an implicit admission that the entire OTC market was a crap idea – rather radical and smack on from my perspective.
At the same time as this push to exchanges is announced, the FSA tossed their own spanner into the works, with their rather Yvesian argument that derivatives clearing may in some cases (and I assume they mean CDS) will be just as ropey and bailout prone as the OTC market. Or more cynically, they are introducing the same loophole to derivatives regulations as we saw in the US!