European banks, including Deutsche Bank AG and Standard Chartered Plc, have less equity relative to assets than their U.S. peers, and will have to shrink or boost capital as regulators demand reduced leverage.
Standard Chartered holds Tier 1 capital equivalent to 7.04 percent of its adjusted assets, more than its European peers and 2 percentage points shy of Wells Fargo & Co., the strongest U.S. bank, according to data compiled by Charlottesville, Virginia-based SNL Financial LC. Deutsche Bank AG’s ratio is 3.76 percent, based on average assets for 2011, the last full year for which figures are available for companies surveyed by SNL.
Before the credit crisis, European regulators focused on banks’ assets weighted by risk, encouraging lenders such as UBS AG to load up on top-rated bonds backed by subprime mortgages, which later plummeted in value. After New York-based Lehman Brothers Holdings Inc. collapsed in 2008, U.S. authorities were faster than their European counterparts to force lenders to raise cash.
“U.S. regulators and banks acted quicker and more effectively, and addressed the issue of leverage when they could,” said Ketish Pothalingam, a portfolio manager in London for Pacific Investment Management Co., which runs the world’s biggest bond fund. “As a result, they look a lot better now. The European banks were laggards in comparison.”
During the past six months, the average cost of insuring against default by the largest U.S. lenders for five years was 71 basis points less than for European banks, according to prices in the credit-default swap market.
Banks in the Americas raised $536 billion of new capital in the 12 months starting in the fourth quarter of 2008, almost 40 percent more than their European peers, data compiled by Bloomberg show.
Authorities are focused on four strands as they rewrite standards that international banks must observe in the third incarnation of the Basel accord under the aegis of the Bank for International Settlements. These include stiffer capital requirements, a leverage ratio, as well as liquidity and funding demands to offset the impact of any bank run, said Kinner Lakhani, an analyst at Citigroup Inc. in London.
“Politically, it would be unacceptable to have the banks bailed out again,” Pothalingam said. “The authorities’ real agenda is to have stronger, safer institutions.”
Underlying the new regulations is the insight that over-reliance on a single measure of risk is open to manipulation, said John Raymond, an analyst at CreditSights Inc. in London.
“The Europeans worried about risk weights, so they had lots of AAA rated stuff that blew up,” he said. ‘The U.S. banks were more worried about keeping volumes down to meet leverage ratios, so they shrank their balance sheets through securitization. But they kept some of the toxic waste and that blew up, too. The banks gamed whichever ratio was used.”
Only two European banks -- Standard Chartered and HSBC Holdings Plc -- make SNL’s top 10 of banks with the safest leverage ratios, based on the 2011 full-year figures. Bank of America Corp., No. 2 in the U.S., was at 7.53 percent and third-placed State Street Corp. at 7.3 percent, compared with HSBC’s 6.4 percent. Zurich-based UBS was at 4.1 percent and Credit Suisse Group AG was at 3.77 percent, according to SNL.
SNL calculates that banks improved their ratios by the third quarter of last year, assessing both Swiss banks at 4.5 percent, compared with 7.84 percent at Bank of America and 7.6 percent for State Street.
UBS spokesman Dominik von Arx referred to the company’s published leverage ratio of 6.1 percent calculated under rules mandated by the Swiss regulator, and declined to comment further. Swiss regulations allow banks to deduct loans to domestic non-banking companies, meaning the figures aren’t comparable with those of banks in other jurisdictions.
The international banking rulebook has increased to 616 pages from 347 pages for Basel II and 30 for the first version, according to a Bank of England paper authored by Andrew Haldane, executive director for financial stability, and economist Vasileios Madouros.
The complexity of the regulations “makes it close to impossible to account for differences across banks,” according to the central bank’s research. “It also provides near-limitless scope for arbitrage.”
Banks assign risk weights to their assets using internal models, meaning that similar loans or securities bear different measures of risk depending on the institution that owns them. Starting this year, regulators will begin compiling figures based on common definitions, in advance of enforcing a global standard for assessing leverage.
“A leverage ratio is a useful additional tool to risk-weighted assets as an indicator,” said Steve Hussey, a credit analyst at AllianceBernstein Ltd. in London. “There can be big differences, especially when banks are using internal models.”
Differences in the accounting treatment of derivatives under U.S. and European accounting rules also make it tough for analysts to compare lenders.
“Risk weighting by itself isn’t an adequate measure of the riskiness of a balance sheet,” said Lakhani at Citigroup. “There’s no single measure that is, but on a combined basis it’s the outliers we are trying to catch here.”
Christian Streckert, a spokesman at Deutsche Bank in Frankfurt, referred to an Oct. 30 presentation by Chief Financial Officer Stefan Krause that uses adjusted “target definitions.” Krause put the bank’s leverage ratio at 21 percent at the end of the third quarter, compared with SNL’s end of 2011 figure adjusted for derivatives of 3.76 percent.
Deutsche Bank’s ratio “really isn’t that high, not under the new world order of Basel III and tougher regulation,” said Andrew Lim, an analyst at Espirito Santo Investment Bank in London. “Deutsche Bank is going to have to shrink or raise capital.”