Who's left to recapitalise the banks?
Private equity groups and sovereign wealth funds have already been tapped so where do we turn next? The absence of an obvious answer is one reason why financial markets remain under pressure.
breakingviews.com
Who's left to recapitalise the banks? The fact that it is so hard to answer this question with conviction is the main reason bank stocks have tumbled and one reason why financial markets as a whole remain under pressure.
The Federal Reserve Board's decision to keep its safety net for investment banks open for as long as the turmoil persists has given a short-term fillip to share prices. But the underlying bank capital crisis is looking increasingly ugly. The industry is only part way through rebuilding its balance sheet. Goldman Sachs, for example, says European banks may need another €60-€90 billion – on top of the €73 billion they've already raised.
But the obvious ways of getting equity are blocked. Almost everybody who has invested in the various waves of capital raising in recent months on both sides of the Atlantic has lost his shirt.
Several avenues have been explored. First, there were the sovereign wealth funds. But, with the exception of Qatar's participation in Barclays' recapitalisation, they have recently been notable for their absence. Then there were a spate of rights issues in Europe. Investors have lost money on these, despite their deep discounts. And, in the case of the UK's Bradford & Bingley, the original rights issue failed and could only be resuscitated after arm-twisting by the authorities.
Finally, private equity groups – notably Texas Pacific Group - have got involved. But despite sweetheart deals, TPG still got burnt with its Washington Mutual investment and turned tail on its proposed recapitalisation of B&B. Even if it had the appetite to play again in the UK, it's not obvious it would be welcome.
Which brings one back to the question. Where else does one turn? One obvious option is to sell assets. Hence, the idea that Merrill Lynch may sell its stakes in Bloomberg and BlackRock and the UBS could put Paine Webber on the block. This may be better than nothing. But in both cases, the vendors will be viewed as distressed sellers.
When opportunities to raise new capital are exhausted, there is still the alternative of selling the bank. Or is there? Rescuers are in short supply. In the US, JP Morgan has already been used to rescue Bear Stearns, while Bank of America's appetite has presumably been exhausted by its disastrous experience with Countrywide. In the UK, HSBC and Lloyds TSB are still strong enough to mount a rescue of their weaker brethren. But do they really want to? Those banks that have participated in last week's B&B "lifeboat” operation have already lost about a third of their money.
If more banks run into trouble, it may be hard to find willing lifeguards. The authorities may then have to resort to unconventional methods like bribing banks to take over weak institutions – say by agreeing for taxpayers to share in the risks. There is already a precedent. The Fed had to absorb $US30 billion of Bear Stearns' most toxic assets to get the JPMorgan deal done.
If bribery doesn't work, more nationalisation on the lines of the UK's Northern Rock will beckon. That could even be the eventual outcome of the Fannie Mae/Freddie Mac saga in the US.
Of course, the banking industry is still supported by official safety nets – such as the one the US Federal Reserve Board extended for broker-dealers yesterday and the bank of England's Special Liquidity Scheme. So the risk of bankruptcy has been reduced. On the other hand, the authorities are stepping up the pressure on weak banks to raise capital.
In the circumstances, it is hardly surprising that bank stocks have tanked. Shareholders see they are likely to be badly diluted in future capital raisings. And short-sellers, smelling blood, drive down the shares making it even harder to raise new funds on good terms.
Meanwhile, the overall pressure on banks to conserve capital keeps ratcheting up. That is leading even the moderately healthy banks to deleverage their balance sheets so they don't become the next victims. This is rational from the perspective of individual institutions. Unfortunately, it causes more damage to asset prices and, by squeezing lending, to the macroeconomy – giving a further vicious twist to the deleveraging cycle.
For further commentary visit www.breakingviews.com
Who's left to recapitalise the banks? The fact that it is so hard to answer this question with conviction is the main reason bank stocks have tumbled and one reason why financial markets as a whole remain under pressure.
The Federal Reserve Board's decision to keep its safety net for investment banks open for as long as the turmoil persists has given a short-term fillip to share prices. But the underlying bank capital crisis is looking increasingly ugly. The industry is only part way through rebuilding its balance sheet. Goldman Sachs, for example, says European banks may need another €60-€90 billion – on top of the €73 billion they've already raised.
But the obvious ways of getting equity are blocked. Almost everybody who has invested in the various waves of capital raising in recent months on both sides of the Atlantic has lost his shirt.
Several avenues have been explored. First, there were the sovereign wealth funds. But, with the exception of Qatar's participation in Barclays' recapitalisation, they have recently been notable for their absence. Then there were a spate of rights issues in Europe. Investors have lost money on these, despite their deep discounts. And, in the case of the UK's Bradford & Bingley, the original rights issue failed and could only be resuscitated after arm-twisting by the authorities.
Finally, private equity groups – notably Texas Pacific Group - have got involved. But despite sweetheart deals, TPG still got burnt with its Washington Mutual investment and turned tail on its proposed recapitalisation of B&B. Even if it had the appetite to play again in the UK, it's not obvious it would be welcome.
Which brings one back to the question. Where else does one turn? One obvious option is to sell assets. Hence, the idea that Merrill Lynch may sell its stakes in Bloomberg and BlackRock and the UBS could put Paine Webber on the block. This may be better than nothing. But in both cases, the vendors will be viewed as distressed sellers.
When opportunities to raise new capital are exhausted, there is still the alternative of selling the bank. Or is there? Rescuers are in short supply. In the US, JP Morgan has already been used to rescue Bear Stearns, while Bank of America's appetite has presumably been exhausted by its disastrous experience with Countrywide. In the UK, HSBC and Lloyds TSB are still strong enough to mount a rescue of their weaker brethren. But do they really want to? Those banks that have participated in last week's B&B "lifeboat” operation have already lost about a third of their money.
If more banks run into trouble, it may be hard to find willing lifeguards. The authorities may then have to resort to unconventional methods like bribing banks to take over weak institutions – say by agreeing for taxpayers to share in the risks. There is already a precedent. The Fed had to absorb $US30 billion of Bear Stearns' most toxic assets to get the JPMorgan deal done.
If bribery doesn't work, more nationalisation on the lines of the UK's Northern Rock will beckon. That could even be the eventual outcome of the Fannie Mae/Freddie Mac saga in the US.
Of course, the banking industry is still supported by official safety nets – such as the one the US Federal Reserve Board extended for broker-dealers yesterday and the bank of England's Special Liquidity Scheme. So the risk of bankruptcy has been reduced. On the other hand, the authorities are stepping up the pressure on weak banks to raise capital.
In the circumstances, it is hardly surprising that bank stocks have tanked. Shareholders see they are likely to be badly diluted in future capital raisings. And short-sellers, smelling blood, drive down the shares making it even harder to raise new funds on good terms.
Meanwhile, the overall pressure on banks to conserve capital keeps ratcheting up. That is leading even the moderately healthy banks to deleverage their balance sheets so they don't become the next victims. This is rational from the perspective of individual institutions. Unfortunately, it causes more damage to asset prices and, by squeezing lending, to the macroeconomy – giving a further vicious twist to the deleveraging cycle.
For further commentary visit www.breakingviews.com
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