Following the collapse in the banking sector, the European regulators kicked off a stress test, designed to examine and better understand the safety of the banking sector, and likelihood of a recurrent collapse.
As the exam is now completed, the regulators have released the results which were pleasantly surprising. Of the 91 banks tested, just 7 failed – five of these banks are Spanish, while one is German and Greek respectively. Regulators assessed the banks’ ability to survive a double-dip recession based on how much sovereign debt they hold on trading books, not hold-to-maturity bonds.
Analysts commented after the disclosure that the test may have been too easy. From a capital position, the banks hold much more long term bonds, and the stress test didn’t take into account possible government defaults or restructuring, which would seem appropriate to include now that we have seen the Greece disaster. The concerns of Greek, Spanish and other European debt crisis triggered the stress tests.
Stephen Stanley, economist at Pierpoint Securities in Stamford, Conn. commented “I think that the results are going to generally be viewed skeptically. The stress test was certainly not as strenuous as it could have been.” Andrew Busch, global currency strategist at BMO Capital Markets added “The market was looking for about a dozen banks to fail; it got about half of that. The tests themselves were disappointing, but, to take a step back, there’s a bit of kick the can down the road going on. Everybody is trying to wallpaper the problems, and hopefully they can grow their way out of it to some extent with higher tax receipts.”
The U.S. regulators engaged in a similar stress test last year, turning their focus to exposure on subprime mortgage meltdown. As a result of those tests, 10 of 19 banks failed, and had to raise $75 billion to remain well capitalized. Bank of America (NYSE: BAC) alone had to raise nearly $34 billion. Of the seven European banks that failed their stress test, the estimated capital shortfall stands at $4.5 billion.
The results were disclosed after markets closed in the euro zone, though the European bank stocks trading on U.S. exchanges did rose modestly in the afternoon. In addition, the Euro regained some of it’s losses against the dollar, as the currency has been in free fall much of 2010. In the European banking sector, the individual nations are tasked with regulating the banks and disclosing sovereign debt holdings – this has become an issue in France’s disclosure, as it is believed the French banks own lots of Greek debt. It is not believed that the major U.S. banks like Citigroup (NYSE: C), JPMorgan Chase (NYSE: JPM), or Wells Fargo (NYSE: WFC) have significant exposure. Europe’s political leaders announced last month $1 trillion rescue package for distressed countries, essentially offering a backstop to any member nation in trouble.
