U.S. banks will emerge the big winners if global regulators’ “pragmatic” approach to solving the problem of too-big-to-fail banks is followed by the Federal Reserve, analysts and investors said.
Banks on the Financial Stability Board’s list of the world’s most systemically important institutions, led by HSBC Holdings Plc and JPMorgan Chase & Co., will need to have capital and debt available to take losses in a crisis equivalent to 16 percent of their risk-weighted assets in 2019, rising to 18 percent in 2022, three people familiar with the plans said on Oct. 2. The FSB had originally proposed a range of 16 percent to 20 percent.
“The U.S. banks, especially the biggest ones, are the clear winners here, provided the Fed adopts the rules more or less as they are,” said Paul Smillie, a Singapore-based credit analyst at ColumbiaThreadneedle, which manages about $487 billion globally. “They’d have had to seriously expand net new issuance in the U.S. if the FSB had opted for the 20 percent figure. Now they’re more or less there.”
The FSB made the decision on total loss-absorbing capacity, or TLAC, at a meeting in London on Sept. 25, though the numbers could change before the rules are made public, two of the people said, asking not to be identified because the process isn’t public.
The regulator is preparing to present the rules for leaders from the Group of 20 nations to ratify at a summit in November. The aim is to ensure that the lenders presenting the greatest threat to the world financial system because of their size and interconnectedness can be safely recapitalized and restructured without recourse to public funds.
Had the FSB opted for a 20 percent level, JPMorgan and Wells Fargo & Co. would have had to issue about $85 billion and $65 billion, respectively, to comply and would have been the hardest hit, Smillie said. Wholesale-funded trading firms such as Goldman Sachs Group Inc. and Morgan Stanley are already where they need to be, he said.
Along with a requirement based on assets weighted by risk, the banks must also meet a criterion based on the total size of their balance sheets, known as a leverage ratio. This will be set at 6 percent initially, rising to 6.75 percent, the people said. The original proposal was for a requirement of at least twice the level set by the Basel Committee on Banking Supervision, which is currently 3 percent.
“The FSB is taking a bit more of a pragmatic approach,” said Steve Hussey, a credit analyst at AllianceBernstein in London. “It does seem they’ve listened to the banks and dialed it back a bit.”
HSBC and BNP Paribas SA, two of the lenders that have the largest potential shortfalls, show that risk-weighted assets are likely to be more important for banks than the change in the leverage ratio to 6.75 percent.
Assuming balance sheets don’t change before the deadline, HSBC would need to find as much as $125 billion of eligible securities to meet a requirement of 18 percent of risk-weighted assets, while BNP Paribas SA would need the equivalent of about $73 billion, Hussey estimates. Given the length of the phase-in period and the likely changes in balance sheets, the shortfalls will be far smaller, he said.
An exemption for the three Chinese banks on the FSB’s list of global giants will expire in 2024, meaning they’ll have to comply the following year, two of the people said.
“The Chinese banks are mainly deposit-funded, domestic lenders and are systemically important only because of the size of their balance sheets,” Hussey said. “The FSB is saying pragmatically it doesn’t want to destabilize the Chinese system, which it would if their banks had to comply tomorrow. That would kill them.”
Industrial & Commercial Bank of China Ltd. has total assets of $3.6 trillion, compared with HSBC’s tally of $2.6 trillion, data compiled by Bloomberg show. ICBC has almost $50 billion of public bonds outstanding, compared with HSBC’s $163 billion, the data show.