As shares in their companies were tanking this week, a small group of European bank bosses sat down in London for a dinner of saffron risotto, salmon and asparagus and agreed that the market reaction to the collapse of a Californian lender was overblown.
The chief executives were adamant that investors were “underestimating” the strength of European banks’ balance sheets “in terms of liquidity, capital, earnings and asset quality”, said Davide Serra, the founder of investment boutique Algebris Investments and host of the dinner.
Europe’s banks “are the strongest they’ve been for 30 years — if ever there was a moment to panic, it’s not now”, Serra added.
Until US federal regulators took over Silicon Valley Bank last week, after rising interest rates blew a hole in its balance sheet, some bankers in Europe were only dimly aware of the tech-focused bank’s 40-year existence.
Since then the fallout has been swift and brutal as investors dumped European banking shares.
“The rise in rates has been so rapid that you see cracks starting to appear,” said Kevin Thozet, a member of the investment committee of French asset manager Carmignac.
“Risk management at large European banks is very different from that of regional US banks. The risks are lesser, because they are largely covered and hedged. But all the same, where has that risk been passed on to? We don’t know that yet.”
Credit Suisse was the catalyst for much of the pain that rippled through Europe, from France’s BNP Paribas and Société Générale to Spain’s BBVA and Britain’s Barclays.
The Swiss bank — already under intense pressure following a series of scandals, deposit outflows and a radical restructuring plan — was hammered after a top shareholder ruled out further investment.
The pain in European banking stocks was only halted when Credit Suisse agreed a SFr50bn central bank lifeline on Wednesday night.
By Friday morning, banking indices were back in positive territory for the second day running — stopping the worst two-day rout since Russia’s invasion of Ukraine.
“This week’s rout of European bank stocks does not seem to make much sense,” said one European regulatory official, as governments from Paris to Berlin called on investors to keep a cool head and rejected notions of a system wide-problem.
“It appears more a question of general confidence, rather than a specific problem that investors are focused on.”
But the problems at Credit Suisse are far from over and the episode has added to warning signs for the industry. By the end of Friday, the European Stoxx 600 banks index had lost another 2.6 per cent, and was down 15 per cent for the week.
SVB’s collapse followed the fall in value of its long-dated Treasury bonds and underlined the unexpected consequences of long-awaited interest rate hikes. Investors say that the pensions crisis in the UK, which was triggered by spiking gilt yields, was an early warning sign of the dangers ahead.
Like SVB, European banks also hold large bond portfolios, the paper value of which has fallen due to rate rises. But a far smaller proportion of these are designated as “available for sale” on their books, meaning, unlike bonds which are being held to maturity, their values have to be adjusted.
European banks have 6 per cent of assets invested in “available for sale” portfolios while their total investments make up 18 per cent of their total balance sheets, analysts at ABN Amro estimated. That compared to 14 per cent of “available for sale” investments at SVB and investments as a share of assets of 57 per cent.
“This should make them less prone to sharp valuation changes,” the ABN Amro analysts said.
In addition, so-called unrealised losses from such valuation changes are taken into account in capital requirement calculations and how they are applied in Europe, where all banks regardless of size are subject to stress tests and strict supervisory and liquidity demands. In the US, a 2018 rollback of some regulatory requirements under president Donald Trump exempted the likes of SVB, or some banks with assets of up to $250bn, from such scrutiny.
The structure of SBV’s deposits, which were concentrated in the tech sector and 96 per cent uninsured, exacerbated its problems.
“Overall, European banks rely on diversified funding sources, with sticky household deposits accounting for 30 per cent of all liabilities,” analysts at credit rating agency Standard and Poor’s said, adding that selling bond portfolios and realising losses would be a “last resort”.
“I’m not really worried about asset-quality risk for European banks,” said Jérôme Legras, head of research at Axiom Alternative Investments, a Paris-based financials specialist with $2.2bn in assets under management. “They have unused provisions from Covid and lending criteria has been pretty tight. The cost of risk will rise but from very low levels. It’s not a big concern.”
Frustration at the severe correction this week was apparent. One European bank chief executive said investors had failed to appreciate how much the sector had changed since Lehman Brothers’ collapse in 2008.
“We have between five to eight times as much liquidity,” the chief executive said. “There isn’t the sector-wide sickness that was the US subprime mortgage problem of 2008.”
However, and despite the confidence of many regulators and bankers, Credit Suisse remains an immediate risk. News on Wednesday night that it had secured liquidity was “a major relief”, one of the European Central Bank’s 26 governing council members said.
That enabled the ECB to go ahead with pre-signalled plans to raise its deposit rate by half a percentage point to 3 per cent on Thursday, the highest level since the 2008 financial crisis. “It stopped the panic,” said the council member. “It should buy some time while the Swiss find a solution.”
However, if a solution cannot be found, several senior bankers in Europe and Switzerland said the respite could be shortlived — for Credit Suisse and for the sector.
“Investors are looking for the weak spot. In Europe, that’s Credit Suisse,” said one banker in Paris. “At this stage, it’s about reputation rather than anything objective to do with their numbers.”
Additional reporting by Olaf Storbeck in Frankfurt and Laura Noonan in London
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