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“Probably, the greatest risk for us is the uncertain outlook for regulatory reform. It’s a risk we must manage” John Varley, Barclays |
What is the biggest risk that banks face in 2010? Is it the difficulties of sovereign borrowers in keeping their finances on track and avoiding default? Could it be the threat of a double-dip recession, if investors force up interest rates on government bonds and corporates respond by shelving investment and laying off more workers? Could it be bad loans already festering on their balance sheets inside credit card and unsecured personal loan portfolios?
Not according to John Varley, chief executive of Barclays, who identified an even more troubling problem looming for banks last month when the UK lender impressed the market with strong income and earnings growth for 2009 delivered off a delevered and more strongly capitalized balance sheet that Barclays reduced by one-third over the course of 2009.
Varley says: “Probably, the greatest risk for us is the uncertain outlook for regulatory reform. It’s a risk we must manage and we shouldn’t be fatalistic about it. Some commentators think that the reform agenda could require the deconstruction of universal banks.”
Narrow banking no solution
After Mervyn King, governor of the Bank of England, endorsed the spirit of the so-called Volcker Rule in the US, Varley has a message for policymakers contemplating imposing any draconian structural change on universal banks: “We believe a safer system does not require narrow banking. Indeed, there is no correlation at all between failure and big or small, narrow or broad, domestic or international. We see big banks as risk diversifiers, not risk aggregators.”
Varley has earned the right to be listened to. His bank eschewed taxpayer support in the crisis. The morning he delivered 2009 results he had bolstered his standing even further by forgoing a bonus for 2009, forcing the heads of the state-owned UK lenders to follow his lead.
He can point to his own bank as a shining example. One year ago, Barclays share price was being beaten down as investors and traders bet that it would follow RBS and Lloyds into the arms of the UK government. It didn’t. The Barclays management team bolstered capital reserves and earned their way through the loan losses resulting from the downturn.
Varley says: “The history of the last 20 years has revealed on many occasions the benefits of having our capital markets business and our retail and commercial banking business in the same group. The asymmetry of their income and impairment cycles is often a source of risk diversification and resilience and we’re seeing that again in this cycle. This is one of the benefits of running a universal banking business.”
Analysts are convinced that the bank is continuing to move in the right direction. Mark Phin and John Holmes, analysts at Keefe Bruyette & Woods, were especially heartened by guidance from Barclays’ group risk director, Robert Le Blanc, that the bank had passed the worst of impairments and sees a turning point ahead. Le Blanc expects “a moderate decline in impairment year on year from ’09 to 2010”.
Phin and Holmes have increased their estimates for the bank’s 2010 earnings by around 40% as a result and note: “We like the progress being made at Barclays. The build in the capital position, reduction in balance sheet leverage, liquidity increase and P&L progression provided us with the comfort we are looking for.”
Challenges from Basle
However, KBW also notes the challenges ahead for banks even just dealing with the stricter definitions of capital, imposition of leverage ratios and new liquidity rules already drafted by the Basle Committee at the end of last year. KBW says that these will introduce new procylicality and warns that if passed in the form drafted they “would cause considerable economic stress and damage the recovery as banks struggle to meet the new regulations by 2012”.
