Robert Jenkins: 'A bank run for the benefit of its owners'

Robert Jenkins, a member of the Bank of England's Financial Policy Committee, wrote an editorial in the Financial Times that will resonate with regular readers of this blog.

Specifically, Mr. Jenkins calls on the banks to provide greater transparency as a critical element in running a bank for the benefit of its owners.

Regular readers know that the sign of a well-run bank is one that makes its current asset, liability and off-balance sheet exposure details available to all market participants.  A bank that is willing to do this is a bank that is saying it can stand on its own two feet and has nothing to hide.

The other interesting element of Mr. Jenkins plan is how it parallels this blog's blueprint for saving the financial system.

Last night I had a dream. I was at a shareholders’ meeting of a major global bank. After lunch, the CEO took the podium and delivered an electrifying speech, receiving a standing ovation from the audience. Here is the transcript: 

Fellow shareholders, welcome. 

As you know we have weathered the financial crisis well. Loss-making quarters have been few and far between.

A performance which is absolutely remarkable since the beginning of the solvency crisis on August 9, 2007, but that the vast majority of the Too Big to Fail have managed to achieve.

A performance that is so remarkable, that it defies credibility.  Who would believe that the popping of a global credit bubble for both the private and sovereign sector would not result in banks recognizing staggering quantities of losses?

Earnings are recovering. Our balance sheet is getting stronger and stronger.

How would anyone know that?

In fact, in the Eurozone the case for balance sheets getting weaker and weaker can be made.  Due to pressure from the regulators, Eurozone banks are reducing their leverage by selling off their performing assets.  At the same time, sovereign debt values are collapsing as austerity undermines the creditworthiness of the borrowers.

By the standards of the industry we have much of which to be proud. There is only one not-so-small problem: loyal shareholders – you – have made no money. 

Why have you made no money? Because the dividend was cut by us, the management, and bank share prices were cut by the market. 

Why did we cut the dividend? Because we wished to rebuild capital. 

Actually, regulators had a role in the dividend policy.  Specifically, they wanted dividends eliminated until such time as the bank had rebuilt its capital.

True, the market did cut bank share prices.  The decline in bank share prices is a reflection of the fact that the market suspects that the banks are insolvent.

Why were bank share prices cut? Because the market judges that we have built up insufficient capital. And why is that? Because investors are more conscious of the risks that financial groups take and the leverage with which they take them. Is this perception likely to change soon? Not unless we change. 

What must such change accomplish? It must lay to rest worries of vulnerability. It must remove to the extent possible the threat of surprise. It must prove to prospective shareholders that management will do whatever is necessary to create shareholder value. 

So what is the plan? 

First, we will invite independent specialists to review our holdings and confirm our valuations.

I would like to thank Mr. Jenkins for basing his plan on transparency.  However, why stop with independent specialists invited by the bank?

There is one lesson that has definitely been learned by the market since the beginning of the solvency crisis in 2007.  That lesson is not to rely on independent specialists that the market participant does not hire themselves.

The idea of independent specialist that are invited by the bank recalls for everyone rating agencies being hired to rate structured finance products.

Given that ultra transparency is the sign of a bank that can stand on its own two feet, why not let everyone who wants to review the bank holdings and confirm either by themselves or by hiring an independent specialist the bank's valuations?

Second, we will increase provisions to the extent permissible.

Since as long as deposit insurance is in place banks can operate for years with negative book equity, the provision should be increased to cover the existing losses on all the bank's exposures.

Third, we will cut fixed costs by a further 20 per cent. Fourth, we will remove return on equity as a target for anything other than long-term performance and substitute short-term measures that more clearly adjust for the risks we take....

By providing ultra transparency, bank management accepts going forward that the market will adjust the cost of funds to the bank based on the riskiness of the bank.

Will we lose talent? Ladies and gentlemen, our key people are well paid but a big portion of that pay is in bank shares. Like you, they are tired of underperforming paper. They are also committed to the company. We are among the best in the business. But the business is not being rewarded by the market. We will change market perceptions and all of us will benefit as a result....

The way to change perception is to offer ultra transparency.  The marketplace knows that anything less than ultra transparency leaves it without the ability to assess the risk of the bank.  As a result, by offering ultra transparency a bank eliminates this risk premium across its cost of funds.

Finally, it should make us stand out further as the financial partner of choice for professional counterparties and our wealth management clientele. 

Ladies and gentlemen, investors no longer strive for high short-term returns unadjusted for risk. They strive for attractive, relative, risk-adjusted returns. I believe they will reward balance-sheet strength, greater transparency, lower leverage and therefore lower volatility with a higher earnings multiple. 

Fellow shareholders, these measures will put to rest any concerns that the market may have. 

They will make us the leading bank share to own and the premier bank with which to do business. Most of all, we will get back to creating shareholder value. You have not only my commitment but that of our employees. 

I hope you will support these initiatives.