OVER COFFEE IN a sunny London square in October, the investment chief at a big institutional fixed-income investor distils the funding challenge in front of European banks into a stark statistic. The fund has drastically cut the number of banks whose bonds it will even consider investing in. "Of the 360 financial issuers that we could buy we probably like... maybe 25?" he tells Euromoney. Does he mean 25% of them? No, he means just 25 financials that he might even consider investing in, or less than 7% of the universe of issuers. That, for the remaining 93% of the industry, is a big problem.
Of course no bank treasurer could ever admit to having a funding problem. The industry is at pains to emphasize that while banks in Europe face a funding hiatus, the senior unsecured market is not closed. It is just prohibitively expensive. "For two-thirds to three-quarters of banks this market is absolutely open," reckons Eric Aboaf, treasurer at Citigroup in New York. Aboaf took on this role in April 2009 at the trough of the cycle in the US and emphasizes from his own experience the extent of heavy lifting that banks have ahead of them. But he says that being completely shut out of the market is a problem for only the most distressed banks in the most distressed geographies. "There are haves and have-nots. Most have multiple sources of funding."
In many ways, however, it is the deals that have come to the market since July that emphasize just how difficult this market has become. When Deutsche Bank issued a €1.25 billion two-year FRN at 188 basis points over mid-swaps on October 7 the market hailed the deal as a sign of senior unsecured reopening. Confirming this, it was quickly followed the next day by a €500 million two-year deal from ABN Amro at 130bp over Euribor.
The very fact that a two-year FRN from Deutsche Bank was a cause for celebration is a sign of quite the reverse. Follow-ups from Rabobank (a €1.5 billion seven-year at 125bp over mid-swaps), SEB at 117bp over Euribor for two years, Standard Chartered at 188bp over mid-swaps for two years and Svenska Handelsbanken at 170bp over mid-swaps for 10 years only serve to underline the high calibre of issuer to which market access seems to be limited.
Are lesser-rated banks not coming to the market because they won’t endorse high spread levels and new-issue premia on their deals, or because they can’t find buyers at any price? "September and October have clearly been challenging months for FIG issuers given the volatility in the broader markets," says Edward Stevenson, head of DCM FIG at BNP Paribas in London. "That said we have seen windows of opportunity across the covered, ABS and senior unsecured markets". It is nevertheless just as well that so many banks took advantage of benign market conditions in the first half of the year to pre-fund and thus have already raised much of their requirement for the year. One banker says: "Banks were pushing out their chests in May and June saying they had done maybe 80% of their funding for the year already. But the summer has come and gone and it’ll be getting touchy for any with much left to do between now and the end of December."
Banks have done private placements and other secured funding during the seizure in the public unsecured market. According to Andrew Sheets, analyst at Morgan Stanley, by mid-October European banks in the iTraxx index were already roughly 95% done with full-year funding.
| The refinancing hump |
| Funding needs for iTraxx senior financial banks |
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| Source: Morgan Stanley Research, SNL Financials, company data |
But the more pressing question is the first quarter of 2012. "Redemptions in the first quarter of any year are typically the largest. The first-quarter redemptions in 2012 are the largest on record for European financials, at around €300 billion," says Oliver Sedgwick, head of FIG Syndicate at Goldman Sachs. "Typically issuers pre-fund redemptions three to six months in advance, so issuers would like to be using market opportunities to get ahead of their funding needs. Looking forward, once issuers get over the first-quarter redemption spike, funding needs should materially decline quarter on quarter in line with redemptions."
However, €300 billion is quite a hump – albeit with an as-yet unclear volume of assets rolling off. "Additionally we believe that there is a relatively sizeable deleveraging effect at play," says Sedgwick. "We estimate that there were €1 trillion of non-sovereign bonds that matured last year and a similar number this year. For banks that are over 100% net stable funding ratio (NSFR) the proceeds from these assets can be used to decrease funding needs." Vinod Vasan, managing director and head of European DCM FIG at Deutsche Bank, agrees that the final 2012 funding number could still be manageable. "There is roughly €800 billion of term funding maturing next year but remember that banks have been trying to retire the expensive government-guaranteed debt part of that anyway," he says. "Some of that will be accretive to net interest margin when that rolls off." He adds that many of the assets funded by five-year issuance in 2007 and 2008 will also not be replaced. "Many European banks will continue to rely on the ECB for some time. They will do more covered bonds and other secured funding. So the actual amount of senior unsecured that banks will have to refinance next year could come out at nearer €250 billion to €300 billion. That could be manageable in a reasonable market."
It could be – but only for the higher-quality select few. Others face a painful funding crunch. Just how long and painful this crunch turns out to be depends on who and where you are – and how you fund yourself.
Although the bank crisis is regional in nature it is actually a series of national crises with very different characteristics and challenges for banks in different countries. The market sees the problems as systemic not idiosyncratic, however, and banks don’t really benefit from spread tiering. Access to the market varies widely across the region. Spanish banks, for example, face far tougher funding problems than many others not only because of sovereign concerns but also because of the volumes of cedulas encumbrance many carry. Cedula law in Spain demands that bank balance sheets have a minimum 25% overcollateralization level on their covered bond issuance and several are getting dangerously close to that: Unicaja (36.9%), Banco Pastor (32.4%) and Banco Popular (31.2%) as of June this year. And Caixabank’s level was down to 27.8%. Even Banco Santander has only 35% overcollateralization, which might curtail future issuance. "You simply can’t lend unsecured to many Spanish banks because of the hidden costs on the balance sheet," says Roger Doig, credit analyst at Schroders. This includes not only the encumbrance for secured issuance but also substantial hidden costs relating to real estate lending that mean their capital position might be weaker than it seems.
