Bank Credit Default Swaps Rise

From Bloomberg:

Bank Credit-Default Swaps Rise by Most in a Month on Bets for More Capital

The cost of insuring against losses on bonds sold by European financial companies rose by the most in a month on concern higher capital requirements and losses from sovereign debt holdings will endanger the recovery.

The Markit iTraxx Financial Index of credit-default swaps on 25 banks and insurers rose for a second day, climbing 7.5 basis points to 137, according to JPMorgan Chase & Co. at 2 p.m. in London. European government debt risk also rose.

Investors are concerned the Basel Committee on Banking Supervision will propose higher capital requirements when it meets today, limiting banks’ ability to lend. Europe’s biggest lenders are already facing losses on more than 134 billion euros of Greek, Portuguese and Spanish bonds, according to a Bloomberg News survey.

“If the minimum capital requirement is too high, profitability of banks will decline significantly,” said Alexander Plenk, a Munich-based strategist at UniCredit SpA. “That’s what everyone is waiting for today.”

The Basel Committee is readying new capital and liquidity rules for world leaders to agree on when the Group of 20 meets in Seoul in November. Banks may be required to have a Tier 1 capital ratio of 9 percent under new rules, Die Zeit newspaper reported.


As we have reported before on this blog, banks in general, and European banks in particular are not adequately capitalized. The release of the European "stress tests" a month ago revealed just how low the capital ratios are.

At the time I commented on the results and inadequacy of the tests.

It appears that the public and investors are being fed more intellectual junk food by the banking system and their regulators. According to the Committee of European Banking Supervisors, the good news is that only 7 out of 91 banks failed the "stress" tests with less than 6% Tier 1 capital. What is not mentioned, is that approximately 20 banks have between 6 and 7% Tier 1 capital and the vast majority of banks are under 9% capital.

My question - who sets this bar for the banks to jump over so low?

In my view, Tier 1 capital in the 15 to 20% range is adequate, not 6 or 8%.

A drop of 6 or 7% in Tier 1 capital is almost a certainty in even a moderate recession if Generally Approved Accounting Practices (GAAP)are followed. Many banks and their regulators are gaming the system with these poorly constructed tests.

My suspicion - sometime in the near future (months or a year or so) the sovereign crisis will begin in earnest. Then, when we see bondholders receiving 80 cents or even 60 cents on the dollar for Greek, Spanish or even UK bonds, we will see the true resilience of the entire banking system.
In another post I commented on the possibility of stress tests triggering bank runs:

We have been concerned about European banks in particular for some time now on this blog. While many American banks are weak, European banks operate with extreme leverage - some at 40 to 1 capital ratios. In a deleveraging, deflationary environment where assets values tend to fall - real estate assets and their associated mortgages in particular look vulnerable, a 2 or 3% drop in capital is quite likely. This leads to insolvency concerns once again in the banks.

We should keep a sharp eye on LIBOR during this period. While not much may come of Wednesday's announcement, we could see LIBOR start to climb in anticipation of the test results down the road.

Another area to watch is where deposits flow. As we saw in Greece a few weeks ago, once depositors start to worry, they may send their money elsewhere to perceived safety. A silent bank run may begin.

Quite a long way down the road, we may see bank holidays, if my hypothesis is true. Which is why I cling to gold, the money that owes no one.
And a new article from Bloomberg has this to say about Anglo Irish Bank:

Anglo Irish Bank Corp. expects “certainty” from the government on the future of the lender today, which may help stem an outflow of deposits.

The bank has seen “material” outflows in recent days because of the uncertainty around its future, Chief Financial Officer Maarten van Eden said in an interview in Dublin today. It expects this to “stabilize when certainty is restored,” Chief Executive Officer Mike Aynsley said in the same interview.

Ireland’s Cabinet is discussing options today for Anglo Irish, which the government nationalized last year. The bank is selling loans to a state agency and executives propose splitting the remainder of the loan book into a so-called good bank which would keep lending and a bad bank managing the wind-down of the rest of the loans.

Van Eden also said that it would be a “disaster” if Anglo Irish was to default on its bonds.
It appears that an old fashioned bank run is underway at Anglo Irish!

Back in June I asked if we can believe that the ECB will not provide banks with capital:
 Absolutely Not!

 European Central Bank Executive Board Member Jose Manuel Gonzalez-Paramo said the central bank will ‘absolutely not” provide banks with capital should stress tests show they need it.
My comments at the time:
Will European banks requiring capital trigger the second Lehman event we have been concerned about?

Is this why the ultra wealthy are shifting their assets into physical gold even as it hits new highs?
From the BBC:

US billionaire George Soros has more than doubled his investment in gold, despite calling it the "ultimate bubble" just weeks ago.

Mr Soros' investment vehicle Soros Fund Management increased its holding in SPDR Gold Trust to 6.2 million shares, worth $663m (£425m) at the end of 2009.

It had held 2.5 million shares at the end of the third quarter of 2009.

It is becoming increasingly difficult for me to see a happy or benign outcome from the banking crisis.  I  remain concerned about the possibility of a second Lehman event, and continue to wonder that if sovereign states keep taking on bad bank debt, at what point do states themselves become insolvent?  

In my view, this is why gold continues to shine ever more brightly.


  1. Well, I think Soros is hedging against the gold bubble.


  2. That is certainly a common view Walter.
    My thoughts on gold reflect what I view as a bubble in fiat currencies. Said currencies have no restraint placed upon their creation by irresponsible central banks that are encouraged by their respective Treasury departments to produce massive amounts of currency in an attempt to produce inflation to devalue debts already owed. When we consider the long view of history, gold still looks like a sound bet.


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