Channel 4 news running a feature on risks of foreign banks

ianmr65

Lex, in the on line FT was free today, not sure why, so I've managed to pull off the view on Icelandic banks. Lex is pretty sharp on most matters and it's worth a read.


LEX COLUMN: Icelandic banks
Financial Times
Published: Feb 01, 2008

Will undoing a deal be enough to avert a crisis? This week's news that Kaupthing, Iceland's biggest bank, had pulled its bid for NIBC, the Dutch brokerage, sent the cost of protecting the bank's debt against default down about 14 per cent, according to Markit. A collective sigh of relief across Iceland's incestuous economy saw credit default swap prices ease for the other two big lenders, Glitnir and Landsbanki. Still, investors remain twitchy. Most European banks with similar credit ratings have CDS prices about 60. Kaupthing closed at 480 on Wednesday.
Icelandic banks undeniably deserve a risk premium. Reliance on wholesale debt markets - 58 per cent of funding at Kaupthing, for example - remains a problem. Moody's is right to question whether the money recently poured into banks' internet savings accounts genuinely offsets that dependence. Earnings will be under strain this year, as income from trading, investments and corporate finance falls. And with CDS trading this wide, major public issues of debt or equity look very difficult.
But Iceland's systemic frailties should not be exaggerated. All the main banks run a surplus of foreign-currency assets over liabilities, and the size of this relative to their capital is governed by central bank restrictions. Fourth-quarter results at the big three banks showed healthy net interest income, while capital ratios look solid. Meanwhile, the oft-cited comparison of Iceland's population - a lowly 300,000 - with the combined €118bn balance sheet of its three biggest banks is a distraction. No one draws a similar parallel between, say, Edinburgh and Royal Bank of Scotland.
The question is whether markets will revert to normality before the banks run out of cash; Kaupthing and Landsbanki say they have liquidity on hand to last at least another year. Until then, hunkering down while chasing deposits - as they did after the last liquidity wobble in late 2005 - appears to be the smartest option.

palefountain_2

Excellent seriesof posts Ian. Thanks.

1echidna

I sort of do wonder about Iceland being a volcanic zone but my Icesave and Kaupthing accounts are covered by FSA (less than £35,000), although no doubt the money would be inaccessible for some time. I thought Northern Rock would be quite safe 10 months ago and had 40k in it which I did reduce below £35 when the share price first started to nose dive. I still wasn't very happy though as the FSA guarantee wasn't 100% of my money at that time.

ianmr65

palefountain wrote: »

Excellent seriesof posts Ian. Thanks.

You're Welcome!!

ianmr65

1echidna wrote: »

are covered by FSA (less than £35,000), although no doubt the money would be inaccessible for some time.

The fsa notionally talk about 6 months, however as this has never been tested the proof of the pudding...Iceland's own compensation scheme is reputed to be quicker.

ps646566

If the compensation is wholly or partly dependent on a foreign scheme, and if for any reason they do not, or cannot, cough up, then nobody is going to help you. Whereas if it's a UK organisation then HMG will have to, as Northern Rock has shown. Is it worth the risk for a couple of percentage points on the interest rate ?

Aegis

ps646566 wrote: »

If the compensation is wholly or partly dependent on a foreign scheme, and if for any reason they do not, or cannot, cough up, then nobody is going to help you.

I think you might be confused about the situation. Icesave and other foreign banks operating in the UK are covered as much as any other organisation by the FSCS, meaning that you will get your money back if the institution goes bust. The only difference is that the bank's home country will cough up whatever they can first, than the FSCS will reimburse you for the remainder.

So if anything, you are safer like this because you have the other country's scheme as well as the UK one to cover any losses incurred due to the insolvency of a bank.

Whereas if it's a UK organisation then HMG will have to, as Northern Rock has shown. Is it worth the risk for a couple of percentage points on the interest rate ?

This has nothing to do with the compensation scheme, which was not required in the Northern Rock crisis. No depositor ever came close to losing their money, and the foreign government could easily nationalise the bank and deal with the situation in the same way as we did with NRK.

And yes, it's worth it for 2 percentage points difference. 4.5% would be an appalling rate, barely beating RPI. As always, diversification would be the key if you were really worried.

Mr_Mumble

Stompa wrote: »

The argument was that potential investors should take into account the CDS ratings of banks.

A few such ratings were given in the programme, but where would I find a more comprehensive list for other banks/building societies?

FT Alphaville posted a note from Credit Suisse listing the UK banks' CDS rates this morning:

"UK bank CDS are fairly flat with A&L at 375bps, Barclays 163bps, B&B 425bps, HBOS 245bps, HSBC 145bps, Lloyds TSB 133bps, RBS 205bps, and Standard Chartered 143bps. It is interesting to note that HBOS CDS is now similar to levels where A&L and B&B were trading just a few weeks ago"

I spent a couple of minutes in Excel and created this chart from the above info:

:think:

Personally I think that Channel 4 were quite within their rights to run this story. I do find it odd that the conspiracy theorists want to damn the FSA for pointing out the risks with these Icelandic banks but then expect the FSA's compensation scheme to bail them out if things go wrong.

Effectively the riskier banks are using the FSCS guarantee as a marketing tool to receive cheaper lending than they can in the financial markets, the FSCS scheme has created a moral hazard.

ianmr65

Mr_Mumble wrote: »

Personally I think that Channel 4 were quite within their rights to run this story.

Quite agree, but as i point out in the previous post(s), neither they, nor the FSA, nor the bank of england, nor the treasury really understand what's going on in Credit Markets at the moment. It is arguable that no one really does.

This makes reporting on it rather hard.

Bear Streans went down, basically, because of rumours, illiquidity, excessive exposure to the sub-prime fiasco, a low asset base, and the falling property market (Rather like Northern Rock). The icelandic banks have no exposure to Sub Prime, and are considerably safer in this regard to many high street names. They are also very liquid, have a great asset base, are very conservative in their approach, and have strong interrelationsships.

CDS notes are TRADEDED INSTRUMENTS, (or rather 'not traded' at the moment as the market has collapsed, but nevertheless...)this makes them subject to market fluctuations.

CDS Notes are also derivated, I turned into deriviatives, packaged, and resold, as CDO/ CLO's ect.

CDS notes are taken out by TWO THIRD PARTIES, ie have nothing to do with the institutaion that they refer to directly

So i, (a large finacial institution) have a bond or am considering buying a bond from a bank, or other organisation. I'm worried that the bank/other organisation may go into default, (not be able to pay it's intrest on the bond or pay it back) and so i risk losing my money. I go to the CDS market, and buy a default swap. This was issued by a third party, and sold to another third party. I buy it. I am now covered.

Problem is that and there are very few CDS being traded, as the market has collapsed. And that hedge funds, and others have been buying CDS as a means of turning a profit, as price fluctuatiuons can be shorted, or used to take profit. Much like a companies shares.

This makes CDS notes a relatively poor indicator of credit worthiness, in the current climate. Exposure to sub-prime, asset base, and liquidity are much better indicators. AS THE BANKS THAT HAVE COLLAPSED were woeful in these regards.

Mr_Mumble wrote: »

Effectively the riskier banks are using the FSCS guarantee as a marketing tool to receive cheaper lending than they can in the financial markets, the FSCS scheme has created a moral hazard.

The icelandic banks are opertaing in 15 countries, all of whom have compensation schemes. They see themselves as international banks, who happen it to headquartered in Iceland. Much like RBS or HSBC, The latter being an international Hong Kong bank hq's in London, and which is active in all the countires in the world.

The expectation that any organisation with activity in so many countries would be bailed out by one compensation scheme or central bank is laughable. If any European banks looked like it was going down, the ECB, and all the other central banks would wade in. Creditors in EACH country would then look to their regulator, in our case the FSA, to compenstate, it's citizens.

The icelandic banks are doing exactly the right thing, bearing in mind the situation. Offering competetive rates to Savers to get liquidity that other banks are envious of. As a result they made quite bit less profit, but posted very solid results otherwise.

Another bank last june 2007 posted these results:

"generated record revenues despite continued weakness in mortgage land. Investment banking, global clearing and wealth management all showed solid growth, Second-quarter profit, $486m, (or just shy of £2bn annually) Share price then $149.60.

That banks share price is today $30 dollars, it's name is Bear Stearns. Lot's of the so called safe, UK based banks have big exposures to Bear Streans paper....watch this space.

ianmr65

Aegis wrote: »

the foreign government could easily nationalise the bank and deal with the situation in the same way as we did with NRK.

The Governor of the Central bank of Iceland, has said (in so many words) that it would expect an icelandic bank in trouble to be bought, by one of it's sister banks. And being as he is the ex-prime minister, and has very strong links with all three banks, i tend to believe him. He also said that Iceland is debt neutral UNLIKE the UK ($60bn budget defecit and counting), and could cover a (very unlikely) default.