Nordea Eclipsing JPMorgan Shows Value of Transparency-Capital Convergence
Jamie Dimon says rules for systemically important global banks that would increase JPMorgan Chase & Co. (JPM)’s capital requirements by about one-third will hurt profits, investment returns and the U.S. lender’s future growth.
Shareholders may see things differently if Stockholm-based Nordea Bank AB (NDA), Sweden’s largest, is any guide.
The four biggest banks in the Nordic region’s dominant economy hold more capital on average than those in the U.S., with common equity equaling 12 percent of their assets as calculated under new regulations, according to data compiled by Bloomberg. That compares with 6.5 percent for the four biggest U.S. banks as estimated by analysts at Nomura Securities International Inc. The Swedish banks also have higher price-to- book values and better investment returns than most U.S. banks.
“Dimon and other U.S. banks would be wise to follow the example of the Swedish banks” before regulators impose higher capital rules, Gunther Marder, chief executive officer of the Swedish Shareholders’ Association, which represents about 70,000 investors, said in a phone interview. “Many investors in Sweden appreciate the transparency and higher capital levels of the banks and know that having a lower risk profile will likely lead to a better return over the long term.”
Investors are willing to pay a premium for the more conservatively run Swedish lenders. Nordea, with common equity, or core Tier 1 capital, of 9.7 percent of its risk-weighted assets as calculated under rules agreed to by the Basel Committee on Banking Supervision, has a price-to-book ratio of 1.18. Dimon’s bank, the second-largest U.S. lender, which says its core Tier 1 capital under the new Basel rules is 7.6 percent, is trading at 0.9 times book value, meaning investors believe the lender isn’t worth as much as its stated assets.
Nordea’s five-year average return on equity through 2010 is 16 percent compared with 9.3 percent at JPMorgan. The New York- based bank, which has more than twice the assets of Nordea, is considered by analysts one of the strongest and best capitalized U.S. lenders. Howard Opinsky, a spokesman for JPMorgan, declined to comment.
Nordea, Svenska Handelsbanken AB (SHBA), Swedbank AB (SWEDA) and SEB AB, Sweden’s four biggest banks, whose assets are about four times the size of the country’s economy, are trading at an average of 1.25 times book value. Bank of America, based in Charlotte, North Carolina, the largest U.S. bank with $2.3 trillion in total assets and 5.5 percent core Tier 1 capital, according to Nomura estimates, has a price-to-book ratio of 0.48. The average ratio among the top four U.S. banks, which also include Citigroup Inc. (C) and San Francisco-based Wells Fargo & Co. (WFC), is 0.81, data compiled by Bloomberg show.
“The main reason Swedish banks have a valuation premium is because they are well-capitalized, transparent and the country’s economy is strong with interest rates going up,” said Andreas Hakansson, an analyst at Exane BNP Paribas in Stockholm.
Loans in Sweden are increasing, the unemployment rate is 7.9 percent and the economy expanded at 6.5 percent over the 12 months ended March 31 compared with 2.3 percent in the U.S.
Dimon, 55, has said that JPMorgan won’t be able to make “an adequate return” on certain products under rules proposed by the Basel committee that would require about 30 systemically important financial institutions to hold core Tier 1 capital of as much as 9.5 percent of total risk-weighted assets, 2.5 percent more than other banks.
The JPMorgan CEO told analysts yesterday, after the bank reported its highest half-year profit ever of almost $11 billion, that the company will shed some assets that require higher capital reserves under the new rules.
Dimon’s ‘Great Fear’
Speaking at a bank conference in Atlanta last month, the JPMorgan CEO asked Federal Reserve Chairman Ben S. Bernanke whether capital requirements and bank rules have gone too far reining in the banking system and are slowing economic growth. The U.S. unemployment rate rose to 9.2 percent in June, and the S&P/Case-Shiller index of property values in 20 cities showed that home prices slumped in March to their lowest since 2003.
“I have a great fear someone’s going to try to write a book in 20 years, and the book is going to talk about all the things that we did in the middle of the crisis to actually slow down recovery,” Dimon said.
Bernanke, 57, responded that Dimon’s points are valid and that the Fed lacks the tools to study the net impact of regulatory and market changes over the past three years.
Those concerns aren’t shared by Bjorn Wahlroos, chairman of Nordea’s board, who holds a comparable position at Finnish insurer Sampo Oyj (SAMAS), Nordea’s largest shareholder. A core capital ratio of 10 percent is a “reasonable level,” he said.
“After the exercise with the financial crisis, there’s one big thing to be learned: The system needs more capital and more transparency,” Wahlroos, 58, said in an interview in his office in Helsinki. “We all need to move in that direction.”
Regulators in Sweden are pushing for its banks to hold more core capital than global rivals. The country’s financial watchdog wants the four main banks to have a core Tier 1 capital ratio of between at least 10 percent and 12 percent. Stefan Ingves, the central bank governor, has said Sweden should consider tougher rules than those set by the Basel committee and push the changes through faster than the 2019 deadline.
Swedish banks have invested in what many say are less risky assets. U.S. banks applied an average risk-weighting of 69 percent to their assets compared with 41 percent for Europe, Citigroup analysts led by Kinner Lakhani said in a June 20 report. The average risk-weighting among Swedish banks was less than 20 percent, according to a Nomura report last month. The only developed country with higher average risk-weightings than the U.S. is Russia, where the figure is more than 95 percent, Nomura said.
The high number for the U.S. could mean that bank balance sheets are riskier or that lenders are doing a better job assessing risk, said Brian Foran, a Nomura analyst in New York.
Residential mortgages held by banks have a risk-weighting of 50 percent in the U.S., according to the Federal Deposit Insurance Corp. That means lenders will have to hold at least 3.5 cents of capital against every $1 in whole loans. At Stockholm-based Swedbank, Sweden’s largest mortgage lender, the average risk-weighting on home loans was 8 percent in the first quarter, while Handelsbanken had an average risk-weighting of 5.2 percent, according to company filings.
“One of the questions you often get from investors in Europe is: Are the Nordic banks really the best-capitalized banks in the world, or do they just have risk-weightings on their assets that are too low?” Foran said.
U.S. banks are currently held to Basel I capital standards because the country opted out of Basel II rules adopted by other countries in 2004. That means U.S. lenders use a standardized system for calculating capital needs in which asset types are assigned specific weightings, ranging from zero for lending to the U.S. government to 100 for derivative products.
European banks have more flexibility to determine risk- weightings. HSBC Holdings Plc (HSBA), Europe’s biggest bank, was able to lower its capital requirements by reassessing the treatment of outstanding derivatives contracts. Under international accounting rules, banks have to hold extra capital against such contracts that aren’t fully hedged, and they can’t hedge their contracts without good data.
The London-based bank was able to make “significant risk- weight asset savings” through “data cleansing,” Iain Mackay, HSBC’s finance director, said at an investor meeting last month.
“It’s not transparent to anybody outside whether the model is as good as it could be and, therefore, the capital weighting is right,” Chairman Douglas Flint said at the May 11 meeting.
‘Standard and Fair’
That’s a statement Dimon would agree with.
“What’s not transparent is the calculation of risk- weighted assets” under international accounting rules, Dimon said at a March 30 event in Washington. “Equivalent banks overseas -- adjusting for differences in accounting -- it comes to like half of our risk-weighted assets. The regulators have said they’re going to try to make sure it’s standard and fair, and I’ll take their word on that, but it’s just one more thing we have to keep an eye on.”
Swedish banks have made an effort to be transparent about how they judge and calculate risk-weighted assets, said Hakansson of Exane BNP Paribas.
“This is exactly the type of detailed information the market needs to have a view on how capital ratios are calculated, and you really don’t get this level of detail with most European banks,” Hakansson said.
Sweden has pushed for increased transparency for years. Ingves, named chairman of the Basel committee last month, oversaw the Swedish central bank’s move to issue forecasts of what level it expects the benchmark interest rate to be over a three-year period.
“An individual depositor or investor just cannot judge what’s going on inside a bank on his or her own,” Ingves said in an interview in Stockholm. “By having transparent systems in place you have many, many people looking at what’s going on and that makes the system safer for everybody.”
The drive for transparency and stricter capital rules is a legacy of past Swedish banking crises. In the early 1990s, the collapse of an overheated property market triggered bank losses that led to a government rescue. Nordbanken and Gota Bank were nationalized and merged in 1993 to create Nordea in a state- engineered restructuring.
A property-market crash in the Baltic region following the bankruptcy of Lehman Brothers Holdings Inc. in September 2008 and a global credit squeeze led to further losses. Swedbank, the biggest lender in the Baltics, was hit hardest and posted losses in all quarters of 2009. It relied on government guarantees for funding until July 2009 and raised 27.5 billion kronor ($4.17 billion) in two rights offerings to replenish capital.
“The fall of Lehman was an eye-opener for everybody,” Swedbank CEO Michael Wolf said in an interview. “We’re much more conscious of how important being properly capitalized is, and I’m sure our shareholders appreciate this.”
That may explain why Swedish lenders have largely escaped the sovereign-debt crisis that has plagued so many European rivals. Nordea said it holds no Portuguese, Italian, Irish, Greek or Spanish sovereign debt.
“We are very down-to-earth, and we like to know where the money is,” said Wahlroos, the Nordea chairman. “Nobody is going to sell on projected cash flow and its volatility or whatever the parameters are used to describe a structured- finance product.”
Confidence in Swedish banks means it’s cheaper to insure debt than for U.S. financial companies.
The cost of protecting Handelsbanken debt is the second- lowest in the world among 196 banks tracked by Bloomberg at 68.1 basis points, compared with 89.4 for JPMorgan. The average for U.S. banks is 131.3. A basis point is one-hundredth of a percent, and each additional point means an extra $1,000 a year to protect $10 million of debt for five years. The comparable figure for Nordea debt is 96.2, higher than for JPMorgan.
While Nordea has a higher price-to-book ratio than JPMorgan, its shares have slumped 12 percent this year, exceeding JPMorgan’s 4.9 percent decline. The government has been selling shares in Nordea as part of a plan to divest its entire stake in the bank and generate cash to pay down state debt. Sweden owns about 13.4 percent of Nordea, a holding valued at about 36 billion kronor. It sold 6.3 percent in February.
Handelsbanken’s shares have fallen 13 percent this year and SEB’s 17 percent, while Swedbank is up 7.3 percent. The 24- member KBW Bank Index is down 11 percent.
“Because the macro environment is better in Sweden, I would say that the essential fitness of the individual banks is also better,” Luis Maglanoc, the global head of credit research at UniCredit SpA in Munich said. “The challenges of the financial crisis are practically over for Sweden.”
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