Scandinavian Bank ‘Widgets’ Fueling Downgrade Risk in S&P Study

Scandinavia’s biggest banks have failed to curb funding risks linked to financial innovation and will probably only avoid downgrades if national regulators force through stricter measures, according to Standard & Poor’s.

Steps taken to date by lenders including Denmark’s Danske Bank A/S (DANSKE) and Nykredit A/S, as well as Nordea Bank AB (NDA) and Svenska Handelsbanken AB (SHBA) in Sweden, aren’t enough, said Per Tornqvist, a Stockholm-based analyst at S&P. As competitive pressure “forces banks to maintain short-term funding,” regulators need to step in and help banks extend their funding maturities, he said.

“The more widgets and gadgets you bring to the table, the more complex the product will be and the more risks there will be,” Tornqvist said in an interview. “The government creates the level playing field for market participants.”

AAA-rated Scandinavia’s biggest banks are more vulnerable to funding shocks than their peers in the U.S., France and Italy, according to a July analysis by S&P, which measured liquidity risks five years after the collapse of Lehman Brothers Holdings Inc. paralyzed the global financial system. The rating company criticized Nordic lenders’ practice of using funds as short as one year to finance loans as long as 30 years, as well as a reliance on short-term offshore borrowing.

“Denmark, Sweden and Norway are scoring particularly badly,” Tornqvist said.

Half GDP

Swedish banks are more dependent on market funding than banks in most other countries, according to the Financial Supervisory Authority in Stockholm. The nation’s banks need to refinance about 20 percent of their assets every year, the equivalent of more than half Sweden’s $540 billion economy, the FSA estimates.

In Denmark, home to the world’s largest mortgage bond market per capita, banks refinance as much as $228 billion annually, spread over quarterly auctions. About 50 percent of Danish borrowers refinance their mortgages annually, according to the FSA in Copenhagen.

Efforts to sidestep funding mismatches by inventing new securities will do little to persuade S&P the lenders are really addressing liquidity risks, Tornqvist said.

“It’s not up to us to decide, but we can see for sure that the old 30-year or 20-year or 10-year annuity loans with matching funding take away everything but the risk of the client not being able to pay,” he said.

New Securities

Banks are responding to the latest regulator demands that they protect themselves against funding misalignments by inventing new securities.

Realkredit Danmark, Danske Bank’s mortgage arm, unveiled a home loan last month with a rate that resets every six months and that’s funded with three-year bonds. The lender designed the security in anticipation of stable funding rules that require banks to show they can survive 12 months without tapping markets.

Swedish and Danish banks, whose assets are about four times the size of their economies, depend more heavily than lenders elsewhere on markets because their deposit bases are smaller, according to the S&P study. Still, Sweden’s biggest banks are among Europe’s best capitalized, helping drive down their funding costs.

While regulators have urged banks to become less reliant on short-term funding, demand for the securities from borrowers and investors such as Pacific Asset Management Co. shows little sign of evaporating.

Credit Watch

S&P cited a shortening of funding maturities when it placed Handelsbanken and Swedish state-backed mortgage lender SBAB Bank AB on credit watch negative, and reiterated its negative outlooks for Nordea and SEB AB in July. S&P also cut outlooks on Danske and three other Danish banks.

The central banks of Sweden and Denmark have asked lenders to reduce their reliance on short-term funding. While Swedish Finance Minister Anders Borg has criticized his country’s banks for what he says is an overuse of short-term dollar funds, Denmark’s government has mostly supported its mortgage lenders.

Danish Business Minister Henrik Sass Larsen said last month the market should be left to itself to decide the fate of the country’s one-year mortgage bonds.

“This is a very political issue,” Tornqvist said. “If you tell the banks, extend your funding, that’s going to hit Mr. and Mrs. Jensen by Christmas, no later. If you say to the Swedish banks, go extend your funding, it’s going to trickle through, but it’s less obvious.”

S&P is waiting to see what requirements governments place on lenders deemed systemic to their local economies before taking any ratings actions, Tornqvist said.

“We have signaled that if you do something -- and we expect that to be the case -- it might neutralize our negative outlook,” Tornqvist said. “If the government says, ‘This is fine, it’s the best system ever, nothing needs to be fixed,’ we probably wouldn’t agree with that.”

To contact the reporter on this story: Frances Schwartzkopff in Copenhagen at

To contact the editor responsible for this story: Tasneem Brogger at Christian Wienberg at

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