Post on 30-Aug-2018
What can we learn from the results?
The ECB’s Comprehensive
Assessment
Strategy&
Executive summary: Key findings and implications
Confidential property 1
On October 26, the European Central Bank (ECB) published the results of its Comprehensive Assessment of the 130 largest banks in the Eurozone, consisting of an Asset Quality Review (AQR) and a Stress Test. The Stress test was executed together with the European Banking Association (EBA) and included another 20 non-Eurozone banks
Strategy& analyzed the published results and combined them with available bank- and country-specific information
On first sight, the impact of the Comprehensive Assessment is relatively limited, with €7Bn additional capital to be raised across 11 banks with outstanding shortfalls, although it is fair to say that so far reviewed banks have raised an aggregate €40Bn in 2014, most likely also driven by the pressure of the review
The aggregate capital depletion identified in the Comprehensive Assessment amounts to €263Bn — but because these are prudential rather than accounting findings, only a portion of this will be reflected in banks’ balance sheets
Banks with high capital depletion are typically from countries highly affected by the sovereign debt crisis, are small, had a low credit rating, and often face restructuring requirements due to received state aid — this highlights that, without a convincing and profitable business model, state aid alone is insufficient to render banks stable
Banks with positive results are typically based in strong economies, are large or part of a larger group, and have been exposed to data-driven supervision — suggesting that data quality was an important driver of findings
In general, markets were expecting larger banks to fail and the overall shortfall to be higher, raising the question of whether the exercise is perceived as sufficiently stringent by investors
The Comprehensive Assessment could lead to a fallacy for those banks that are sufficiently capitalized but have an intrinsically weak(er) business model to lose momentum for reform and improvement
Going forward, banks should adapt their business model and risk management to the changing environment of bank supervision, which is likely to be more standardized and data driven
28 October 2014
Strategy&
To enhance banking transparency
To restore confidence in European banks
To repair banks and increase capital
To prepare for the ECB’s new supervisory role
which begins November 2014
Confidential property 2
150 Banks in 25 Countries
Source: Note on Comprehensive Assessment, October 2013, Strategy& analysis
130 participated in the full assessment,
including the Asset Quality Review (AQR)
Additional 20 banks participated in the
European Banking Authority (EBA) stress test
Portfolios were selected based on contribution
to risk
Scope
Objectives
Description of assessment
The AQR in particular was a very extensive
review involving many resources at the
national competent authorities (NCAs) and at
the reviewed banks
Total costs are estimated at ~€0.8–1.0Bn
Costs
Cyprus
Malta
Asset Quality Review (AQR)
and stress test
Stress test only
Not in scope of CA
28 October 2014
Overview of the European Central Bank’s (ECB’s) Comprehensive Assessment (CA)
Strategy&
The ECB Comprehensive Assessment consisted of three components: an AQR, a stress test and the join-up
Confidential property 3 28 October 2014
Components of Comprehensive Assessment
Asset Quality Review
(AQR)
Stress Test
Point-in-time assessment of the accuracy of the carrying value of banks’ assets as of Dec. 31, 2013
This review involved uniform methodology and harmonized definitions for all banks, in line with capital requirements regulations and directives (CRR/CRD IV)
Banks were required to have a minimum Common Equity Tier 1 (CET1) ratio of 8% after the AQR — compared to 4.5% under Basel III requirements
Forward-looking examination of the resilience of banks’ solvency under two hypothetical economic scenarios — a baseline and an adverse scenario
The review incorporated bank calculations and centrally defined requirements in order to ensure sufficient conservatism in projections
Banks were required to have a minimum CET1 ratio of 5.5% after the adverse scenario — compared to 4.5% under Basel III requirements
Source: Aggregate report on the Comprehensive Assessment, AQR, stress test and Join-up Methodology, Strategy& analysis
Join-up
Integration of the AQR results into the stress test for each bank according to calculations set by the ECB
Adjustment of risk parameters, valuation adjustment for fair value assets and implementation of DTA thresholds in the stress test
Strategy&
The assessment found that €263Bn had been lost in capital impact on top of a €49Bn drop since the CRD IV phase-in
Confidential property 4
Capital depletion in comprehensive assessment Aggregated across 130 AQR banks in billion Euro
28 October 2014
1) Tier 1 refers to core tier 1 capital under CRD III, and CET1 refers to common equity tier 1 capital under CRD IV – average weighted by RWA
Source: ECB/EBA disclosure templates, Strategy& analysis
Final
CET1
229
ST
impact
8%
threshold
995
CRD IV
phase-in
49
-5%
Tier 1
capital
1,044
AQR
impact
34 -3%
733
Starting
CET1
-22%
Tier1 /
CET1%1 12.4% -0.6% 11.8% -0.4% -3.0% 8.4%
Total
Capital
CA impact:
€263Bn
The total CET1 capital impact found was €263Bn, of which €229Bn resulted from the stress test (incl. RWA effect) and €34Bn from the AQR
On average, banks remain well above the 8% AQR threshold, even after the stress test, but individual banks have fallen below
The average stress test impact is larger than the AQR for two main reasons
– The AQR reflects current market value — the stress test reflects a performance under a hypothetical adverse scenario
– The stress test covers the entire balance sheet, whereas the AQR covers only selected portfolios
The drop in capital from the CRD IV phase-in exceeds the AQR impact, highlighting the impact from Basel III on bank capital
Comments
Strategy&
Bank Shortfall (€Mn) Assets
€Bn
State
aid Country
Monte dei Paschi di Siena 199.1 Italy
Banco Comercial Português 82.0 Portugal
Österreichischer Volksbanken 40.6 Austria
Permanent tsb 37.2 Ireland
Banca Carige 37.0 - Italy
Dexia N.V. 222.9 Belgium
Hellenic Bank 6.4 - Cyprus
Banca Popolare di Vicenza 45.2 - Italy
Banca Popolare di Milano 49.4 Italy
Nova Ljubljanska banka 12.5 Slovenia
Nova Kreditna Banka Maribor 4.8 Slovenia
Another 14 banks have failed, but do not have to raise additional
capital, due to restructuring efforts (2 banks) and sufficient capital
being raised since Jan. 2014 (12 banks)
In total, 11 banks have failed the assessment with additional 14 “technical failures”
5
List of failed banks in CA Banks that have to submit a capital-raising plan
The direct capital implications from the CA are limited. Failed banks are required to raise an additional €7Bn or a mere 0.7% of total CET1 capital included in the exercise
Capital injections of €25Bn — equal to gross shortfall — to be distributed among 25 banks (including technical failures)
Characteristics of the failed banks:
– Size: Mostly smaller banks failed. Average total assets of (technically) failed banks is €59Bn, compared with overall average of €170Bn
– State aid: Of the 11 failed banks, 8 have received state aid since 2008. Of the 14 technical failures, 7 received state aid
– Country: Most failed banks were located in Italy, with another 5 Italian banks in the technical failure group
Source: State aid: European Commission approvals and internet search, ECB/EBA disclosure templates, Strategy& analysis
818
31
34
682
682
276
339
1,839
855
865
1,168 1,168
4,246 2,107
Capital to
be raised
Total shortfall
Technical
failures
28 October 2014
Comments
Confidential property
Strategy&
The impact from the stress test is significantly higher than in the previous EBA stress test across most countries
Confidential property 6
Comments
Note: The country averages are based on the 72 that have participated in both stress tests. The relative capital impact is estimated relative to the AQR-adjusted CET1%
Source: ECB/EBA disclosure templates, Strategy& analysis
Comparison of 2011 EBA stress test to CA 2014 Average relative CET1 impact including risk-weighted assets (RWA)
The comprehensive assessment was more severe than the previous EBA stress test
– CA includes 3 years of stress, compared to only 2 years in the 2011 stress test
– More severe scenarios have been used, for example: funding and sovereign shocks
– Bank calculations have been centrally reviewed and challenged improving the quality of the results
Previous outliers are now more in line with the majority of countries
The significantly higher financial impact in combination with the depth of the review, especially the inclusion of an AQR in parallel, adds to the credibility of the results
28 October 2014
NO -8% 0%
45% BE 8%
47%
PT 29% 49%
SI 26% 67%
CY 24% 79%
GR 37% 90%
SE -5% 11%
DK -10% 18%
UK 26% 21%
HU -11% 25%
ES 2%
14%
MT 1% 17%
NL 11% 22%
FR 10% 23%
LU -11% 25%
FI 5% 27%
DE 25% 32%
AT 11% 36%
IT 13% 37%
IE 120%
2011 stress test 2014 stress test
Stress-test-only
countries: starting
position not
adjusted by AQR
Strategy&
On country level, three groups can be distinguished with regard to the impact of the comprehensive assessment
Confidential property 7 28 October 2014
-0.2
0.1
22.5
0.10.20.1
49.2
18.5
3.71.2
46.9
10.9
47.2
13.015.2
8.0
1.43.2
22.5
1%
11%15%15%
20%
26%27%
35%
45%48%
89%90%
-5
0
5
10
15
20
25
30
35
40
45
50
-10%
0%
10%
20%
30%
40%
50%
60%
70%
80%
90%
100%
Total CET1
Capital impact
Average relative
CET1 capital impact
PT
52%
SI
67%
CY GR FR
22%
NL
26%
FI LU DE
32%
AT IT
42%
IE BE MT EE LT ES
15%
LV SK
Comprehensive assessment impact per country
Total CET1 capital impact Average relative CET1 impact
Source: ECB disclosure templates, Strategy& analysis
Least impacted Average Most impacted
Strategy&
The countries most impacted by the CA are by and large the same countries that suffered most in the financial crisis
Confidential property 8
Impact per country
.
Source: ECB/EBA disclosure templates, Strategy& analysis
Comments
The countries most affected had also suffered in the financial crisis
– Sovereign debt crisis countries, such as Greece, Italy, Portugal, Ireland, Cyprus, and Slovenia
– Belgium, which had bailed out several banks during the financial crisis
The results of the comprehensive assessment are positive for 7 countries
– Spain and France — performance in this data-driven exercise seems in line with banking supervision in the past
– Smaller countries with above-average GDP growth, such as the Baltic states, Slovakia, and Malta
Countries with an average impact from the CA include Germany, Austria, the Netherlands, Finland, and Luxembourg
In the countries where AQRs were not conducted, banks had a lower CET1 impact, in spite of the relatively smaller impact from the AQR
28 October 2014
Average impact on CET1% as
percentage of starting CET1%
CA < 25%
CA 25–40%
ST only 25–40%
CA > 40%
ST only < 25%
Not in CA or ST
ST only > 40%
Cyprus
# # of failed banks
3
Malta
1
2 1
1
1
3
1
9
1
2
Strategy&
The sovereign bond price development was a good predictor of the outcome of the Comprehensive Assessment
Confidential property 9
Comments
There is a positive relationship between government bond yield and CA impact — with only Spain as an outlier
Countries that spent a higher percentage of their GDP supporting banks showed higher impact in the comprehensive assessment
This relationship can be explained by two factors:
– Stress test scenarios for countries with weaker economics have been more adverse
– The sovereign debt crisis affected the banking sector of most of these countries, and the banks have not fully recovered from the crisis
• The analysis underlines the importance of the European Banking Union’s objective: to disentangle the credit quality of banks from their sovereign bond positions
1) Average of the government bond 10-year index yield in 2013; Li, LU, LA, MA and SL based on one ore more single bonds with 10-year maturity; CY based on single 6-year
maturity bond; IE, and SI based on last 10 months of 2013; LI based on Q1 2014; MT based on last 5 months of 2013: LT based on Q2 2014
Source: Bloomberg, ECB/EBA disclosure templates, Strategy& analysis
Relation with government bond yield Average relative CET1 impact vs. government bond yield
Size indicates % of GDP spent to support banks
28 October 2014
0%
10%
20%
30%
40%
50%
60%
70%
80%
90%
100%
1% 7% 6% 5% 4% 3% 2% 0% 12% 11% 10% 9% 8%
Rela
tiv
e c
ap
ital im
pact
Bond yield1
SK
SI
PT
NL MT
LV
LU
LT
IT
IE
GR
FR
FI
ES
DE
CY
BE
AT
Strategy&
The CA is a highly data-driven exercise; conservative assumptions are applied in case of poor data quality
Banks that have their data systems better prepared for such requests are expected to have lower findings
Data-driven supervisors implicitly also encourage banks to improve their data capabilities and meet more rigorous standards
Supervisors are considered data driven when they apply frequent and in-depth (off-site) data analyses (for example, driven by an internal credit register), when they can adjust the bank’s accounting numbers, or when they impose standardized reporting requirements
This implies that the CA impact reflects the banks’ data quality in addition to their asset quality
Banks subject to data-driven supervision have been affected less, highlighting the relevance of data quality
Confidential property 10
Comments
1) Data index is based on: intensity of off-site data analyses, formal authority of supervisor, internal credit register, standardized reporting requirements
Source: IMF reports on quality of banking supervision, IAS Plus Website, EBA website, ECB/EBA disclosure templates, Strategy& analysis
Relation with data-driven supervision Average relative CET1 impact vs Data index1
Fast-growing
countries
28 October 2014
0%
10%
20%
30%
40%
50%
60%
70%
80%
90%
100%
3 4 5 6 7 8 9 10
Rela
tiv
e c
ap
ital im
pact
Data Index1
SK
SI
PT
NL MT
LV
LU
LT
IT IE
GR
FR FI
ES
EE
DE
CY
BE
AT
Strategy&
Credit ratings are highly related to bank failure and CA impact, especially for speculative-grade banks
Confidential property 11
1) Fitch LT Issuer default rating. if ratings were not available for a group-subsidiary, then group rating was applied unless the group was not a bank or not located in Europe
Source: Bloomberg, ECB/EBA disclosure templates, Strategy& analysis
Comments
Credit rating is correlated to relative capital impact, and also correlated to the probability of bank failure
The speculative-grade banks (those with ratings of B+ or lower) appear to follow a high-risk, high-return strategy. They had above-average ROA in 2013, 75% of them have received state aid in the past, and they have raised a total of €11Bn in 2014 — with a remaining shortfall of €2.7Bn
Whereas the average relative capital impact is comparable across the investment-grade banks, the probability of failure is higher for lower-rated banks
These bank failures are mainly driven by the stress test impact, suggesting that the rating captures a bank’s resilience in changing market circumstances
53%
28%26%
BB+ / CCC A / BBB- AAA / A+
Starting
CET1% 12.7% 11.0% 11.0%
Relative
Capital
Impact
# banks 29 20 33
% banks
failed per
rating cluster 3% 18% 50%
Relation with bank credit rating Average relative CET1 impact vs credit rating1
Investment grade Speculative grade
28 October 2014
Strategy&
Banks that are under restructuring due to received state aid have higher findings than other banks
Confidential property 12
Relation with state aid received Average relative CET1 impact vs. state aid
Comments
Almost half (47%) of all in-scope banks had received some form of state support. This increases to 51% if group subsidiaries are not considered separate banks1
Findings are highest for banks that received state aide and are under restructuring - this highlights that, without a convincing and profitable business model, state aid alone is insufficient to render banks stable
Banks that have received state aid since 2008 and did not have – or finalized – restructuring requirements have comparable results to banks that did not receive state aid
However, these banks also have the lowest starting CET1%, suggesting that state support was not used to raise the capital buffer
1) If banks are excluded that: I) are subsidiaries of in-scope banks, ii) are subsidiaries of non-banks, or non-European companies, then 54 out of 106 banks received state aid
Note: State aid refers to banks which have received bank-specific government support since 2008, excluding general guarantee schemes set up in certain countries,
Restructuring refers to banks which are currently implementing a restructuring plan approved by the European Commission
Source: ECB Aggregated report on the comprehensive assessment, European Commission approvals and internet search, ECB/EBA disclosure templates, Strategy& analysis
27.5%25.3%
43.4%
State aid -
under
restructuring
State aid - no
restructuring /
restructuring
completed
No state aid
received
Starting
CET1% 12.0% 11.3% 12.2%
# banks 28 68 34
% banks failed
per cluster 32% 18% 15%
Relative
Capital
Impact
28 October 2014
Strategy&
Large banks and their subsidiaries have substantially lower CA adjustments than small and medium sized banks
The AQR impact is higher for small and medium sized banks
There are three possible reasons for the relation between size and CA impact
– Access to capital markets may be restricted for small and medium-sized banks, especially when they are also relatively small in their home country. Most small non-subsidiary banks have ratings of BBB+ or lower
– Risk management may be less developed at smaller banks due to scale advantages in building these capabilities
– Large banks have scale advantages in adapting to changes in the regulatory environment
Small and medium sized banks were most affected, except for small subsidiaries of groups — which performed best
Confidential property 13
Comments
1) Subsidiaries of larger groups
Source: IMF reports on quality of banking supervision, IAS Plus Website, EBA website, Strategy& Analysis, ECB/EBA disclosure templates, Strategy& analysis
Relation with bank size Average CET1 impact vs bank total assets
Relative
Capital
Impact
# banks 19 46 43
27.2%
43.3%44.2%
17.9%
Medium
banks
Small
banks
Small
Subs1
Large
banks
Starting
CET1%
% banks
failed in size
cluster
0%
11.5% 19.2% 11.2%
30% 9%
22
36%
12.6%
Bank
Assets
<€35Bn €35 - €100Bn > €100Bn
28 October 2014
Strategy& Confidential property 14
1) Based on a Goldman Sachs survey among 125 institutional investors in Sept. 2014.
Source: Bloomberg, Banks listed as expected to fail are derived from the Goldman Sachs survey (Sept. 2014), Credit Suisse (Italian Banks) Feb. 2014, NBG securities on
(Greek banks ), CEPS Acharya &Steffen Jan ’14, Nomura (2014) and newspaper coverage, ECB/EBA disclosure templates, Strategy& analysis
Comments
Markets were expecting larger banks to fail and the overall shortfall to be higher, raising the question whether the exercise is perceived as sufficiently stringent by investors
According to a survey by Goldman Sachs among investors, markets were expecting a gross shortfall in capital between €75Bn and €91Bn — excluding an assumed aggregate capital raised of €47Bn in the first 9 months of 2014. The expected net capital shortfall was between €28Bn and €51Bn1
In contrast, the gross capital shortfall identified in the CA is €25Bn, which results in a net shortfall of €7Bn after net capital raised in 2014
The banks that were expected to fail but passed the CA are substantially larger than the failed banks, suggesting that the assessment took bank size (“too big to fail”) into account
Failed banks compared to investor expectations
Legend
Real failures
Technical failures
28 October 2014
Cooperative Central Bank
Eurobank
National Bank of Greece
Monte dei Paschi di Siena
Veneto Banca
Banco Comercial Português
Banca Popolare di Vicenza
Banca Popolare di Milano
Banca Popolare di Sondrio
Piraeus Bank
Banco Popolare
HSH Nordbank
Banco Popular Español
Raiffeisen Zentralbank Österreich
Commerzbank
Alpha Bank
Banca Carige
Hellenic Bank
Permanent tsb
Bank of Cyprus
Österreichischer Volksbanken
AXA Bank Europe
Münchener Hypothekenbank
Credito Valtellinese
Nova Kreditna Banka Maribor
Dexia
Nova Ljubljanska banka
Banca Popolare dell'Emilia Rom.
Liberbank
Caise de refinancement de l’habitat
Expected, but passed
# Banks 11 14 5
Avge CET1
impact -78.3% -72.3% -29.8%
Net capital
raised €13.8Bn €4.7Bn €0.1Bn
Net
shortfall €3.6Bn €3.2Bn -
Avge total
assets €78.7Bn €46.4Bn €207.7Bn
Investors expected 5 additional banks to fail. The actual total net shortfall of €7Bn compares to the expected €51Bn
Unexpected fails Expected fails
Strategy&
Findings for individual banks may lead to additional capital needs or affect banks’ operations in various ways
Confidential property 15
Implications for banks based on results
Source: Strategy& analysis
Sustainably profitable business model No convincing business model
Positive
results
Opportunity to leverage strength
Use increased transparency to attract
funds to fuel growth opportunities
Capitalize on M&A opportunities
Roll out superior organizational forms
and processes to other jurisdictions
Continue to rethink business model
Positive results might provide time to
fix underlying issues. It is important to
keep the momentum
Revaluate risk-return for specific
business areas, given regulatory
scrutiny and capital demands
Negative
results
Explain the results and fix issues
Develop clear storyline for the markets
Leverage key insights from interactions
with the supervisor for fixing issues
Develop clear action plan to address
identified shortcomings
Manage the damage
Practice active stakeholder
management
Consider scenarios to isolate most
affected loans / portfolios
Focus on client and talent retention
Banks are prone to
two misconceptions
Lack of repair is
enforced by CA
False positive
signal reduces
urgency of change
28 October 2014
Strategy&
The CA has provided more transparency on the quality of the banks, but there are also some limitations
Confidential property 16
Benefits Limitations
Evaluation of the Comprehensive Assessment
28 October 2014
Enhanced transparency of banks’ asset quality
across the eurozone and basis for
harmonization of bank supervision
Establishes AQR as the basis for more
consistent view of non-performing exposures
and significant increase in NPE stock
More credible than previous stress test with a
more severe scenario and strong central quality
control resulting in a significantly higher impact
Enhanced insight for bank supervisors in
portfolio-specific characteristics due to thorough
assessment of loan classifications and
provisions
The exercise has unearthed a number of data
quality issues; banks are incentivized to
improve their data management capabilities
Findings do not lead to any judgment about the
solidity of the underlying business models of
individual banks
The CA does not provide any guarantee for
performance of the banking sector going
forward, as some types of risks have not been
stress-tested (e.g. liquidity, strategic and non-
financial risks)
Impact on bank capital was lower than
expected by some market participants and only
the banks that failed can be forced to increase
their capital
Results depend on the specific methodology
chosen for the AQR, on national regulation
(such as the treatment of tax credits) and by the
assumptions in the stress test
Source: Strategy& analysis
Strategy&
Based on the CA, there are five focus areas where banks should invest to build or enhance their capabilities
Confidential property 17
Set up advanced data management and systems
Enhance loan-level and aggregated data
Include data insights in decision making processes
Stress testing
Data systems
Integrated
approach
Underwriting
culture
Integrate strategy, finance and risk more effectively
Incorporate funding and liquidity in investment
decisions
Create and enhance internal capabilities for
managing stress-testing models and mechanics
Run testing models between official stress tests
Change underwriting culture, moving from
collateral focus to cash-flow-driven analysis
Adapt policies and procedures to facilitate cultural
transformation
Increased cost of poor data
quality due to change in
supervision approach
Poor strategic decision making
due to insufficient insight in risk
and finance aspects
Increased scrutiny on bank-
executed stress test leading to
strict adjustments
Supervisory focus shifting
away from collateral-driven to
cash-flow-driven underwriting
Risks / challenges Improvement levers
Key capabilities that banks should develop
28 October 2014
Portfolio focus
Identify performance indicators
Include visibility assessment of performance in
strategic decision making
Higher capital required for
assets or countries where data
does not reflect performance
Source: Strategy& analysis
Strategy&
About the authors
Confidential property 18
Dr. Peter Gassmann is a partner with Strategy& based in Frankfurt and Dusseldorf and the global leader of of the firm's financial-services practice. He also co-leads the firm’s global risk, finance, and regulation platform supporting clients to build holistic risk, liquidity, and capital management capabilities in view of the changing business and regulatory environment.
Dr. Philipp Wackerbeck is a partner with Strategy& based in Munich and a member of the financial-services team, for which he co-leads the firm’s global risk, capital, and regulations platform. He has advised various banks, regulators, central banks, and supervisory authorities and has been leading various bank restructuring programs in Europe, the U.S., and the Middle East for many years.
Jeroen Crijns is a senior associate with Strategy& based in Amsterdam and a member of the European financial-services team. He is an expert in the area of risk, capital, and regulation for the banking and insurance industry and has led the study about the results of the ECB Comprehensive Assessment.
Dr. Christel Karsten is an associate with Strategy& based in Amsterdam and a member of the European financial-services team. She is an expert in the area of risk, capital, and regulation for the banking and insurance industry and has co-led the study about the results of the ECB Comprehensive Assessment.
28 October 2014
The following people also contributed to this analysis: Julian Biegmann, Willem Giebels, Andreas van Braam, Erwin Hieltjes, Nina Straathof and Margret Venneboerger
Strategy&
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Confidential property 19 28 October 2014
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Confidential property 28 October 2014