Seven EU Banks Fail Tests With $4.5 Billion Shortfall

The Hypo Real Estate Holding AG
The Hypo Real Estate Holding AG company headquarters sits in Munich, Germany. Photographer: Guenter Schiffmann/Bloomberg

Seven of the 91 European Union banks subject to stress tests failed with a combined capital shortfall of 3.5 billion euros ($4.5 billion), stirring concern the evaluations were too lenient.

Hypo Real Estate Holding AG, Agricultural Bank of Greece SA and five Spanish savings banks have insufficient reserves to maintain a Tier 1 capital ratio of at least 6 percent in the event of a recession and sovereign-debt crisis, lenders and regulators said today.

The banks are in “close contact” with national authorities over the results and the need for more capital, said the Committee of European Banking Supervisors, which coordinated the tests. Governments are seeking to reassure investors about the health of financial institutions after the debt crisis pummeled the bonds of Greece, Spain and Portugal.

“The amount of capital needed is much lower than the market expected,” said Mike Lenhoff, London-based chief strategist at Brewin Dolphin Securities Ltd., whose parent company oversees $33 billion. “The amount does seem quite trivial considering the concerns about losses from the sovereign crisis.”

Part of the reason the amount of capital needed was lower than analysts predicted may be because the evaluations took into account potential losses only on government bonds the banks trade, rather than those they are holding to maturity. That means the tests ignored the majority of banks’ holdings of sovereign debt.

What’s more, European banks have raised 220 billion euros in the last 15 to 18 months, which dwarfs the amount of money that U.S. banks raised following their stress tests, Credit Suisse Group AG analysts said in a note this week.

Test Criteria

Still, estimates for the amount banks would need to raise ranged from 30 billion euros at Nomura Holdings Inc. to as much as 85 billion euros at Barclays Capital. Tests carried out in the U.S. last year found 10 lenders including Bank of America Corp. and Citigroup Inc. needed to raise $74.6 billion of capital.

“The long awaited stress tests do not seem to have been that stressful after all,” said Gary Jenkins, an analyst at Evolution Securities Ltd., in a note. “The most controversial area surrounds the treatment of the banks’ sovereign debt holdings.”

The results were released after the close of European stock markets. The euro was little changed against the dollar, falling

0.02 percent to $1.2896 as of 7:39 p.m. in London.

Bond Losses

Regulators tested portfolios of sovereign five-year bonds, assuming a loss of 23.1 percent on Greek debt, 12.3 percent on Spanish bonds, 14 percent on Portuguese bonds and 4.7 percent on German state debt, according to CEBS.

The tests also assessed the impact of a four-step credit rating downgrade on securitized debt products, a 20 percent slump in European equities in both 2010 and 2011 and 50 other macroeconomic parameters, including an economic contraction in the EU, according to CEBS.

In Germany, Hypo Real Estate, the commercial-property lender rescued by the government following the financial crisis, was the only bank to fail among the 14 that were tested. Its capital ratio dropped to 4.7 percent in the most severe scenario, said the Bundesbank and the nation’s financial regulator, BaFin.

The German bank has a capital shortfall of about 1.25 billion euros. An “immediate need for capital would arise only if the hypothetical stress scenario actually did materialize,” the Bundesbank and BaFin said. Germany’s Soffin bank-rescue fund already provided Hypo Real Estate with more than 7 billion euros in funds through the end of June.

Spanish Banks

Agricultural Bank of Greece, 77 percent owned by the Greek state, reported a shortfall of 242.6 million euros and said it would proceed with a share capital increase.

Spain, with 27 tested banks, makes up the biggest portion of the exams. The savings banks that failed were CajaSur; a merger group led by Caixa Catalunya; a group led by Caixa Sabadell; Caja Duero-Caja Espana, and Banca Civica. Spain’s largest bank, Banco Santander SA, maintained its Tier 1 capital ratio at 10 percent under the most stringent scenario.

The savings banks have a combined capital shortfall of about 2 billion euros, according to documents posted on the CEBS website. Bank of Spain Governor Miguel Angel Fernandez Ordonez said the central bank will set a deadline for savings banks to raise new capital privately, before turning to public funds. The end of the year would be a reasonable deadline, although it could be brought forward, he said. Banca Civica today announced plans to raise 450 million euros by selling bonds convertible into shares to J.C. Flowers & Co., a U.S. buyout firm.

Near the Threshold

Banks that showed a drop in capital to near the 6 percent threshold include Greece’s Piraeus Bank SA, with a ratio of 6 percent, Allied Irish Banks Plc, with 6.5 percent, Italy’s Monte Dei Paschi di Siena SpA, with 6.2 percent, and Nova Ljubljanska Banka in Slovenia, with 6.3 percent.

Norddeutsche Landesbank, a German state-owned lender, and Deutsche Postbank AG, the German retail bank partially owned by Deutsche Bank AG, reported ratios of 6.2 percent and 6.6 percent, respectively, in the sovereign-shock scenario.

In France, BNP Paribas, Societe Generale SA, Credit Agricole and BPCE SA each have enough capital to outlast an economic slump and a sovereign debt crisis, the Bank of France said. In Britain, HSBC Holdings Plc, Barclays Plc, Lloyds Banking Group Plc, and Royal Bank of Scotland Group Plc passed the tests, the Financial Services Authority said.

The evaluations, which came two years after the U.S. subprime mortgage crisis roiled global financial markets, cover 65 percent of the EU banking industry.

Publication of stress-test results in the U.S. helped lift the Standard & Poor’s Financials Index 36 percent from the start of May through the end of last year.

Before it's here, it's on the Bloomberg Terminal. LEARN MORE