Daily Archives: 27th November 2018
Daily Archives: 27th November 2018
|🇩🇪 10 Yr Bund
|iBoxx Corp IG
|iBoxx Corp HY
|🇺🇸 10 Yr US T-Bond
|🇬🇧 FTSE 100 6007.05, (-0.71%)||🇩🇪 DAX 13116.25, (-0.70%)||🇺🇸 S&P 500 3319.47, (-1.12%)|
One step forward, two back, and few are convinced that we are anything likely going to sustain a rally between now and year-end. They’re right to feel/trade that way.
The Brexit debate continues but was less dominant in the session, although issues around it will resurface towards the end of next week in a big way – ahead of that crucial Commons vote on December 11. The other bit of good news was the emerging view that the Italians were rowing back on their effusive budget plans for 2019 and hence that ‘intolerable’ deficit as seen by the EC. Trump later stirred, though, on China tariffs and that dominated the mood as a little pressure was applied to US equities.
In the end, there wasn’t a whole load of enthusiasm around, and the markets were not flying. Nevertheless, amid that feeling of reduced immediate event-risk, primary credit was in better shape, giving borrowers an opportunity to get something on the screens as deals finally flowed.
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For all the attention on DB & its inability to generate decent ROE and the consequent equity underperformance this year, BNP is another large cap national champion bank that seems to have lost its way with its equity which is down almost 35% YTD. Looking through the reported Q3 figures, although not that obvious at first glance, equity investors seem to have focussed on some disturbing underlying trends.
To start with, the bank, like its peers, is struggling to generate decent revenue growth in its corporate and investment bank, especially in its FICC business. On top of that, the bank’s cost-to-income ratio is in the 70% area. Loan losses have come down but that is due to benign economic conditions in Europe. Yes, it reports an acceptable 9% to 10% ROE for now but earnings are now exposed to multiple headwinds.
Asset quality and risk management used to be strong points – but with a reasonably large stock of NPLs and presence in Italy, Turkey and other Emerging Markets as well as exposure in personal financial services, future credit-related costs may yet go up. And additional provisioning may yet be needed at a time of decreased revenues and a stagnant cost base.
Overall funding metrics seem fine with a loan-to-deposit ratio around 94% and a highly diversified funding base. But that cannot mask the bank’s reliance on wholesale funding (?) given its large balance sheet size. As a large and frequent issuer of debt securities, the bank has very good access to capital markets and is able to issue debt at satisfactory spread levels.
Capital is where I find that the bank has really not kept pace with global peers. Yes, CET1 ratio is a decent 11.7% and leverage ratio at 4% (and it was at 4.6% at end of 2017) but in the event of a large tail risk event, these ratios drop sharply. In the recently concluded EBA stress test, the bank’s CET1 ratio dropped to 8.64% in a hypothetical adverse scenario. The bank seems to have levered up its balance sheet in recent periods, especially in the investment bank.
Given the leverage situation and potential for headline risks stemming from a presence in Italy and Mediterranean countries, in my personal view, the bank’s AT1 securities and LT2 debt seem to trade tight. I think that this is a function of the bank’s French domicile and perceived strong risk management strengths.
Relative to equity, I wonder if AT1 holders have more confidence in the bank’s overall business strategy, past track record and current fundamentals despite the recent underlying trends and issues.
Only time will tell if this comfort factor of credit investors is justified.