Surprise! Europe's banks to raise little new capital from investors as a result of 9% Tier 1 mandate

According to a Bloomberg article, the analysts have crunched the numbers on the European regulators requiring Eurozone banks to hit a 9% Tier 1 capital ratio and discovered the Eurozone banks will require little in the way of new capital from investors.

The analysts reached two conclusions.

First, the 9% Tier 1 capital ratio will not restore investor confidence as the issue is what are the banks' current exposures and the lack of credibility of their risk models.  In addition, it is the peripheral banks and not the core "systemic" banks that need to raise capital.

This conclusion is not a surprise to regular readers as they know that it will take disclosure by each bank of its current asset, liability and off-balance sheet detail data to restore investor confidence.

Second, the 9% Tier 1 capital ratio mandate is just another exercise in "extend and pretend" by the Eurozone policymakers and financial regulators designed to buy time.

Europe’s largest banks may raise just a tenth of the total capital shortfall estimated by regulators, fueling concern policy makers’ plans to bolster the region’s lenders could fail.... 

Rather than tapping investors or governments, firms are trying to hit the 9 percent core capital target by adjusting risk-weightings, limiting dividends, retaining earnings, reducing loans and selling assets. Banks had threatened to curb lending, risking a recession, to meet the goal rather than take government aid that would bring limits on bonuses and dividends...

“The issue is how much fresh capital will be brought in,” Philippe Bodereau, head of credit research at Pacific Investment Management Co. in London, said in a telephone interview. “It would be positive if we saw banks launching rights issues, but they won’t. This is hardly shock and awe.” 

Lenders may sell as little as 6 billion euros of new stock to investors to plug the shortfall, according to Alastair Ryan, an analyst at UBS AGin London. That’s seven times less than the amount banks will raise from retaining earnings and adjusting risk-weightings, he said. 

Before last week’s summit, analysts at JPMorgan Chase & Co. and Credit Suisse Group AG had estimated banks might need as much as 250 billion euros more capital. 

Now, only Banco Bilbao Vizcaya Argentaria SA of Spain, Germany’s Commerzbank AG, France’s BPCE SA, Austria’s Raiffeisen Bank International AG and four Italian banks -- UniCredit SpA, Banco Popolare SC, Banca Monte dei Paschi di Siena SpA and Unione di Banche Italiane ScpA -- need to raise money, according to [Morgan Stanley analyst] Van Steenis. 

“Surely, no one thinks that by allowing banks to avoid raising capital in all these various ways it’s going to give investors more confidence,” said Peter Hahn, a professor of finance at London’s Cass Business School and a former managing director at New York-based Citigroup Inc. “Part of the issue for a long time has been the lack of credibility of bank balance sheets and their risk models. This isn’t going to help.” ...

Greece’s six banks will need to raise about 30 billion euros, more than any other EU member state, the EBA said. That shortfall is covered by existing backstop arrangements with the EU and International Monetary Fund, so Greek lenders wouldn’t have to tap investors, according to the EBA. 

Spanish banks have the next-biggest deficit, according to the regulator. Yet Banco Santander SA and BBVA SA, the country’s two biggest lenders, have said they won’t raise capital. 

They will instead rely on profit and changes to the way they calculate risk-weighted assets to meet the target.

Under the Basel rules, firms use internal models to decide how much capital to assign to assets based on their own assessment of a default. The models aren’t disclosed and banks can reach different risk-weightings for the same assets, regulators and analysts say....

Italian banks have a 15 billion-euro shortfall, according to the EBA. UniCredit, which has a 7.4 billion-euro deficit, said it may be able to reduce that to 4.4 billion euros by counting 3.3 billion euros of hybrid securities as core capital. The Milan-based lender, the country’s biggest, said it’s working to identify “capital management actions to be put in place,” without adding further details.... 

France’s BNP Paribas SA and Societe Generale SA, which in September began programs to trim a combined 300 billion euros in assets, said last week they can meet the new capital targets without tapping shareholders or the government. 

President Nicolas Sarkozy said on Oct. 27 he has asked the banks to shift “almost all” of their dividend payments into strengthening their balance sheets and make their bonus practices “normal.” 

Deutsche Bank AG and Commerzbank AG, Germany’s biggest lenders, also are cutting assets and selling businesses to meet the threshold. 

The method used to determine how much capital banks need to raise “puts the onus on peripheral banks and limits the impact on core banks,” said Pimco’s Bodereau. “The big weakness is that banks that are truly systemic are headquartered in London, Paris and Frankfurt and not in Athens.” 

Southern European banks that can’t raise capital may still need to shrink their balance sheets by as much as 40 percent to meet the new requirements and run the risk of having to rely on state injections, Mediobanca analysts including Alain Tchibozo wrote in a note to clients on Oct. 28. 

“They’ve cobbled together a sticking-plaster solution,” said Jonathan Newman, an analyst at London-based Brewin Dolphin Holdings Plc, which manages about 25 billion pounds ($40 billion). “While it’s desirable for them to have been tougher, the reality was they couldn’t afford to be tougher. Banks wouldn’t have been able to raise the money privately, so they would have had to go to governments, which then puts the sovereign at risk.”