Mortgage banks in firing line as Basel readies capital rules

Bloomberg

Big European mortgage lenders in low-risk markets may be the hardest hit by new capital rules that global regulators are expected to complete this week
after a year-long deadlock.
Banks such as ABN Amro Group NV and Svenska Handelsbanken AB will be watching closely on Thursday when the leaders of the Basel Committee on Banking Supervision reveal the results of a meeting called to finish the Basel III capital rules. The latest deal on the table would curb banks’ ability to hold down their capital requirements by using their own statistical models to measure the risk of their assets.
European banks’ assets weig-hted for risk will swell by about 20 percent — 1.6 trillion euros ($1.9 trillion) — under the Basel Committee’s plan, analysts at Citigroup Global Markets Inc. wrote in a Dec. 1 note. Since regulatory capital ratios are calculated as a percentage of risk-weighted assets, they will fall as a result. The Citi analysts estimated the sector’s level of highest-quality capital will dip to as low as 11 percent from 13.5 percent.
“The impact is the biggest where risk weights are the lowest,” said Sebastian Schneider, a partner at consultancy McKinsey & Co. who advises European banks. “That means markets that have been economically stable and had few defaults — northern European countries like Sweden, Denmark, the Netherlands or
Germany — tend to be hit harder.”
CORPORATE LOANS
In wrapping up the Basel standards, whose roots go back to the 1970s, regulators are trying to address wide discrepancies among risk measurements across banks, even for similar assets. This variability has led to concerns that the banks are using their models to game the rules by downpla-
ying the risk of mortgages, loans to banks and large corporati-
ons as well as on issues such as litigation and penalties.
The new framework restricts the options lenders have, most bluntly with a limit on how low banks can drive their capital requirements by measuring asset risk with their own statistical models. Top European Union officials first opposed the inclusion of this floor, then pushed for a level of 70 percent of the result yielded by using a standard formula set by regulators. The US sought an 80 percent floor, later coming down to 75 percent. In the end, negotiators settled on 72.5 percent.
European Central Bank President Mario Draghi, who heads
the Basel Committee’s oversight body, and the regulator’s chairman, Riksbank Governor Stefan Ingves, will brief reporters on
the finalization of Basel III in Frankfurt on December 7.
‘DREAM RESULT’
Bundesbank Executive Board Andreas Dombret, who initially sought to eliminate the output floor, said last month that the compromise deal is not a “dream result” for German banks, but allowing the Basel talks to fail
over 2.5 percentage points “wouldn’t be justified.”
Jan Wolter, a banking analyst at Credit Suisse Group AG, said a “strict floor at 72.5 percent would be the binding constraint for around two thirds of European large cap banks.” But that doesn’t mean they’ll immediately be forced to start raising capital to comply with the rules, which will be phased in by 2027, two decades after the start of the crisis that gave rise to Basel III, according to the proposed compromise.
“The lengthy transition period likely and a widely expected 72.5 percent floor suggest that price action for most banks will be less material than headline numbers may initially suggest,” said Jonathan Tyce, an analyst at Bloomberg Intelligence. “There are so many moving parts that can be tweaked within models, we won’t really know the outcome for many quarters to come.”
Many banks will feel compelled to let investors know quickly
how the rules will affect them, however, especially when it comes to dividends.
“The moment the Basel Committee is ready, then we will have shareholders asking us what does this mean,” Koos Timmermans, chief financial officer of ING Groep NV, said last month. “The expectation for us would be that if over Christmas Basel would be ready, somewhere in January we start to show a capital plan to investors like how are we moving to this.”