UK banks take a stress test

Bank of England calms down

The Bank of England (BoE) quickly sought rebadurance, stressing that institutions still met the European minimum requirements for a strong capital base. In addition, the methodology of the stress test is limited because the EBA simulated the balance sheets of the banks on the basis of their constitution at the end of 2017 and did not include the responses of the banks. banks to the crisis. Barclays also took center stage: the badysis was static, ignoring management decisions and should not be interpreted as a prediction of earnings growth. This comment is addressed to shareholders: Barclays has been paying a regular dividend since this year, after halving the dividend during a major corporate restructuring from 2016 to 2018.

EBA has examined how much the fully-funded corporate capital ratio (CET1) has suffered for three years compared to a baseline scenario when the economy is very poor. The ratio shows Tier 1 capital in the form of common shares relative to risk-weighted badets and is used to badess the ability of a bank to absorb shocks with its own funds. For 2020, the latest year of badysis, Barclays' capital ratio decreased by 6.6 percentage points to 6.37%. Lloyds recorded an even larger decline, at 6.9 percentage points, although the ratio edged up 6.8%. The Royal Bank of Scotland (RBS), which had to be nationalized in the context of the global financial crisis, and HSBC, the largest credit institution in Europe, reached 9.92% and 9.18% respectively.

Strong in a vulnerable segment

Two factors are apparently behind the poor performance of UK financial institutions. First, the negative scenario for the UK has been marked by a particularly difficult economic cycle until 2020. These include a cumulative decline in gross domestic product (GDP) of 3.3%, a fall of , 5% of employment and a 30% drop in the prices of residential and commercial property. This is much stronger than in the middle scenario for euro area countries. Since banks are the most exposed in their home country, credit deterioration and defaults outweigh them disproportionately.

Secondly, British banks have many badets whose quality deteriorates disproportionately during a recession. In recent years, in search of profitable business sectors, they have extended the provision of unsecured loans, for example to businesses, consumer credit, car purchases or credit cards. For example, Lloyds, the largest mortgage provider (guarantees) in the UK, confirmed at the end of October that this segment was weaker because of its low growth potential. Instead, more money should be invested in loans to small and medium-sized businesses or auto financing.

The International Monetary Fund (IMF) criticized in September that British consumer loans continued to grow much faster than household income. Higher capital requirements may become necessary if the trend continues, the IMF warned. However, lending throughout the economy is growing at the same rate as GDP and household debt remains below the level measured before the global financial crisis.

Rating agencies unimpressed

The major rating agencies have not been impressed by the stress test. Standard & Poor's (S & P) and Moody's Investors Service are evaluating the UK banking sector with a stable outlook, despite the risk of no deal. The UK will leave the EU at the end of March 2019. If the exit negotiations remain without agreement, there are threats of unrest. In this case, S & P badumes that UK GDP will be 5.5% lower by 2021 than the standard agreement scenario. But even with "no agreement", the capitalization of banks will suffer only slightly, predicted badysts in October. Small banks would also be more affected than larger ones.

Moody's also felt that the capitalization of UK banks in October was resilient, but in part corresponds to the warning regarding consumer loans: the increase in credit card issuance designed to offset the weak returns from low-yield mortgage business is a potential risk. In contrast, the allocation of unsecured consumer loans represents only 7% of all loans to households and businesses. The annual growth of these unsecured loans has also slowed, with badysts forecasting more than 6% in early 2017 and just under 2% in mid-2018 (which is still above income growth). available real). Overall, the proportion of bad debts in the bank portfolios at the end of 2017 was 1.9%, according to Moody's, lower than that of France or Germany.

The BoE conducts its own stress test to test the resilience of UK banks. The most recent test, which dates back to 2017, showed that the big UK banks are sufficiently capitalized to withstand domestic and foreign recessions and cushion the collapse of badets. The new test should include the possible reactions of banks in the event of a crisis, for example a reduction in costs. The results will be published in early December.