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JPMorgan says 15 European banks could fail EBA stress tests

Tests suffer from negative market perception; Impact may be positive if banks seen to be coming clean

Valentina Zarya

JPMorgan thinks that as many as 15 banks will fail the EBA stress tests published on Friday July 15. “We’ve been lead to believe that 15 institutions could fail,” Stephen Dulake, managing director and head of European credit research, tells Euromoney.

The test results will include 90 of the largest European banks, representing 65% of total assets in the banking sector, according to the EBA. Two Spanish banks, Banco Pastor and CatalunyaCaixa, have already stated that they have failed the tests. Reports indicate that the number of Spanish banks that will not pass could be as high as six. Germany’s Helaba declined to take part after the EBA’s refusal to recognize silent participation hybrid debt for the exercise.

The tests examine European banks’ resilience to hypothetical adverse scenarios, including a worsening of the sovereign debt crisis; a 15% decline in European stock prices; and a 125 basis point increase in short-term rates.

After widespread dismissal of the 2010 tests, which did not fail a single Irish bank, this round has a tough credibility hurdle to get over. “If there is any sense the tests have been reverse-engineered, the market response will not be good,” Dulake explains. “The big issue is the market perception that no one has come clean.”

Dulake emphasizes that a true stress test can also have a positive effect on the market. “If, on the other hand, a bank’s failure is real as a result of a stress test, the bad news can actually be good. If you identify more stress, that’s a good thing because it means people are coming clean.”

Good news or bad both require transparency, something that European stress tests have lacked in the past, Dulake says. “There was a lot of transparency in the US stress tests of May 2009, to the point where someone could conduct their own analysis. That was missing from last year’s tests in Europe and I’m hoping we’ll get there this year,” he explained.

Moreover, bad news can be good news if it identifies the right problems. Failing the stress test sets the stage for banks to raise capital. Member states have mechanisms to get capital, but there is a lack of transparency as to what those mechanisms are. “There was a defined mechanism for providing capital in the US, which is missing in Europe at the moment,” says Dulake. “I’m hoping this is remedied in the aftermath of this year’s European stress tests.”

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