bond markets: a banking perspective john cummins, group treasurer, rbs 5 october 2012 the views...
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Bond Markets: A Banking Perspective
John Cummins, Group Treasurer, RBS
5 October 2012
The views expressed in these slides are an expression of the presenter’s personal views only and do not necessarily reflect the views or policies of The Royal Bank of Scotland Group plc, its subsidiaries or affiliated companies, or its Board of Directors. RBS does not guarantee the accuracy of the data included in this presentation and accepts no responsibility for any consequence of their use. This presentation does
not constitute an offer or a solicitation of an offer with respect to any particular investment.
CISI -Chartered Institute for Securities and Investment
EFFAS- The European Federation of Financial Analysts Societies
2
Agenda
The RBS Journey
Current State of the Inter Bank Market
Uncertainty for Investors
Regulatory Changes
Rating Agency Methodology Changes
Low Interest Rates
Eurozone Crisis
Summary
4
Progress against plan
Group – Key performance indicators
Core Tier 1 Capital ratio
Liquidity portfolio4
Leverage ratio5
Return on Equity (RoE)9
Cost : income ratio11
Loan : deposit ratio (net of provisions)
Short-term wholesale funding2
H112Medium-term
Target
11.1%
£156bn
15.6x
10.2%
61%
104%
£62bn
>10%
>1.5x STWF
<18x
>12%
<55%
c100%
<10% TPAs
Worst point
4%7
£90bn3
28.7x6
(31%)8
97%10
154%1
£297bn3
Value drivers (Core):
Balance sheet & risk (Group):
1 As at October 2008 2Amount of unsecured wholesale funding under 1 year including bank deposits <1 year excluding derivatives collateral. 3 As of December 2008 4 Eligible assets held for contingent liquidity purposes including cash, government issued securities and other securities eligible with central banks. 5 Funded tangible assets divided by Tier 1 Capital. 6 As of June 2008 7 As of 1 January 2008. 8 Group return on tangible equity for 2008 9 Indicative: Core attributable profit taxed at 28% on attributable core average tangible equity (c75% of Group tangible equity based on RWAs). 10 2008. 11 Adjusted cost:income ratio net of insurance claims.
Strong capital, liquidity and funding metrics
Prioritising:
— Safety and soundness of the Group
— Ongoing reduction in wholesale funding
— An appropriate liquidity buffer
5
Significant progress on funding and liquidity measures
Further improvement in LDR; Group 104%, Core 92%
STWF down £18bn q-o-q to £62bn, now only 7% of funded assets
Liquidity buffer strengthened, now ~2.5x STWF
Negligible impacts from Moody’s rating action
1 Worst point taken as at FY08 except Loan:Deposit Ratio (October 08) and customer deposits (Dec 09). 2 RBS pro-forma. 3 Liquidity buffer reserves comprise cash at central banks and eligible unencumbered government and other debt securities. 4 Short-term Wholesale Funding comprises the sum of all the Group’s outstanding debt securities, subordinated liabilities and wholesale bank deposits with a residual maturity of less than one year. Wholesale bank deposits excludes cash collateral received under derivatives contracts. 5 Including deposits in disposal groups (£22.3bn Q112 and £22.5bn Q212). 6 Total Wholesale Funding.
Key MetricsWorst Point1
Q112 Q212
Loan : Deposit Ratio 154% 106% 104%
Loan: Deposit Ratio (Core)
- 93% 92%
Liquidity Buffer3 as % Funded Balance Sheet
7% 16% 17%
Liquidity Buffer3 as % STWF4 30% 191% 252%
STWF4 as % Funded Balance Sheet
24% 8% 7%
STWF4 as % TWF6 60% 34% 29%
£bn Worst Point1
Q112 Q212 Q-o-Q
Funded Balance Sheet2 1,227 950 929 (2%)
Liquidity Buffer3 90 153 156 2%
Total Wholesale Funding (TWF)
492 234 213 (9%)
o/w STWF4 (<1 year) 297 80 62 (23%)
Customer Deposits5 414 432 435 1%
Net Stable Funding Ratio (NSFR) (%)
79% 109% 115% 600bps
6
Improved Funding Composition
118%104% 96% 94% 92%
H1’12
104%
2011
108%
2010
118%
2009
135%
2008
151%
0
250
500
750
1,000
H1’12
67%
33%
2011
63%
37%
2010
58%
42%
2009
51%
49%
2008
48%
52%
Deposits3Wholesale Funding2CoreGroup
Loan : deposit ratio continues to improve… …driving much improved funding1 mix
Non-Core & Markets deleveraging, coupled with strong deposit gathering franchises have driven continued improvements in loan : deposit ratio
UK Retail had a solid half, increasing deposits across both savings and current accounts by 11% (£2.4bn). UK Corporate increased deposits by £3bn in Q2.
Group deposits are up £7bn vs H1’11
1 Primary funding sources, excluding repurchase agreements and equity. 2 Wholesale funding including derivative collateral. 3 Total customer deposits, including deposits of disposal groups.
£bn
7
Response: Target further reduction in wholesale funding
1 Wholesale funding includes unsecured debt securities, subordinated liabilities and bank deposits. Excludes derivative collateral.
Wholesale funding1 usage run-down
£138bn£153bn£181bn
£226bn
£283bn
£362bn
£446bn
20142013H1’122011201020092008
H112 net issuance of £2.1bn
£1.8bn public issuance of secured funding in Q1, no public issuance in Q2
No public senior debt issuance expected in H2’12 with the exception of some modest refinancing in the Group’s holding company
Total wholesale funding1 down £45bn (17%) in H1’12, £21bn (9%) in Q2
9
0
100
200
300
400
500
600
700
Jan-09 Sep-09 May-10 Feb-11 Oct-11 Jun-12
UK 5 Year Spread France 5 Year Spread Germany 5 Year Spread Italy 5 Year Spread Spain 5 Year Spread
Selected European Sovereign CDS Performance Since 2009
Source: J.P. Morgan Data Query as of June 27th 2012
Selected European Sovereign CDS performance (mid 5 Year on-the-run spreads)
70
191
97
538
584
May-10: EU and IMF agrees on €110bn rescue package for Greece and EFSF is created
Mar-10: Greek PM warns that deficit reduction will be difficult due to high borrowing costs
Jan-10: Concerns start to build around Portugal, Ireland, Greece and Spain
Dec-09: Rating agencies downgrade Greek ratings to A1/BBB+
Nov-10: Ireland starts talks with EU, €85bn bailout package is agreed on
Dec-10/Jan-11: ESM is set up worth €500bn
Jun-11: Talks begin over soft restructuring of Greece
Nov-11: Greek PM announces referendum on EU debt deal, while Italian PM resigns
Dec-11: EU countries attempt a new treaty to achieve fiscal consolidation
Jan-12: S&P downgrades ratings of nine sovereigns including France, Italy and Spain
Mar-12: 95.6% participation in Greece PSI unlocks second bailout
Feb-12: Eurozone agrees on €130bn Greek bailout
May-12: Greece fails to form a coalition government
Sep/Oct-11: Italy is downgraded to A and Spain to AA
Jun-12: Pro bailout party ND wins the Greek parliamentary elections
10
25
125
225
325
425
525
625
725
Jan-09 Sep-09 May-10 Feb-11 Oct-11 Jun-12
RBS Barclays Lloyds ABN AmroBNP Unicredit Santander
Source: J.P. Morgan Data Query as of June 27th 2012
Selected European Banks CDS Performance Since 2009
197
302
238
301
271
19-Jan-09: £50bn bank rescue package announced
07-May-10: Hung parliament in UK. Investors meet ECB for another bailout fund
21/22-Nov-10: Economic / political turmoil in Ireland as it accepts controversial bailout package and general elections called
24-May-11: Moody’s put 14 UK financial institutions on review for a possible downgrade
15-Jun-11: George Osborne’s speech at Mansion House. The Chancellor endorsed the plan that “big” banks should “ring-fence” their essential operations
12-Sep-11: Final ICB report published
05-Aug-11: US downgraded
447
546
11-Apr-11: Interim ICB report published
Selected European Banks CDS performance (mid 5-year on-the-run spreads)
21-Dec-11:1st LTRO
15-Sep-11: US$ funding line
29-Feb-12:2nd LTRO
15-Jun-12: ICB White Paper
12
Correlation between the Cash & CDS
August 2011 through to mid-Nov 2011, CDS and cash highly correlated at c. 1 for RBS and Lloyds, and 0.80 Barclays.
Correlation between CDS and Cash decreases from Dec 2011 to Jan 2011.
Rapid decrease in correlation from March 2012 where it was c. 0.80 for RBS and Lloyds, to present correlation of c.-0.2 i.e. negative correlation
13
Global Financial Institution Issuance
Senior unsecured remains the main source of funding for Financials.
Covered bonds has seen increase as Financials look to optimise cost of funding and access to market.
Securitisation has also increased its share from 2009-2011.
Government guaranteed trades issued in 2012 after none seen in2011
Source: Dealogic as of June 227th 2012, Financial Institution Public Issuance in OECD
2009 2010 2011 2012 YTD
14
6,417
15,216
9,931
7,035
90484
9711,911
1,170 1,1481,758 652
2,395 2,2551,611
41,943
31,249
14,403
7,483
33,066
27,137
10,454
46,306
19,866
6,560
3,550
5,910
18,566
1,217
10,1228,658
18,433
Oct Nov Dec J an Feb Mar Apr May J un J ul Aug Sep Oct Nov Dec J an Feb Mar Apr May J un J ul Aug Sep Oct Nov Dec J an Feb Mar Apr May J un J ul Aug Sep Oct Nov Dec J an Feb Mar Apr May J un
Austria Belgium Denmark France Germany Greece Ireland Netherlands Portugal Slovenia Spain Sweden United Kingdom
During heightened period of volatility, European banks have extensively used their respective GG Schemes to access the market
2008 2009 2010 2011
Source: Dealogic as of June 27th 2012. Amounts in $mm equivalent based on exchange rates at time of issue
2008-2012YTD Government Guaranteed issuance by European banks ($mm equivalent)
2012
16
Changes in Regulation (1)
Basel 3/CRD 4 – Quality of Bank Capital – Banks will be required to hold significantly more Core Equity
17
Core Equity Tier
1Core Equity Tier 1
Core Equity Tier 1
Conservation Buffer
Total Capital (inc
T2)
Total Capital (inc
T2)
Core Equity Tier 1
Total Capital (inc
T2) Total Capital (inc T2)
Core Equity Tier 1
Total Capital (inc T2)
Total Capital (inc
T2)
Core Equity Tier 1
Core Equity Tier 1
Core Equity Tier 1Conservation
Buffer Core Equity Tier 1
Capital Requirements
24.5 4.5 4.5 4.5
2.5 2.5 2.5
2.5 3 2.5
2.5 2.5 2.5
2
1.5
1.5 1.5 1.5
42
2 2 2
3.5 4
0
5
10
15
20
25
2012 2019 2019 with addlBuffers
UK - Ring Fence UK Non RingFence SIFI
% R
WA
s
CET1 Conservation Buffer G-SIB/Ring-fence Countercyclical Buffer
Other Tier 1 Tier 2 PLAC
Regulation: Higher Capital Requirements including UK Finish
*(Primary Loss Absorbing Capital)
*
18
Changes in Regulation (2)
For BanksBasel 3/CRD 4 Quality of Bank Capital – Banks will be required to hold significantly more Core Equity New liquidity rules will include need for liquidity buffers of “high quality liquid” assets. What
counts will impact the bond marketsRecovery and Resolution Regimes What will be “Bail-inable”? New form of instrument or all liabilities including deposits?Independent Banking Commission In which bank are you investing? Trading Book Review V@R replaced by expected shortfall under stress, market liquidity risk via liquidity horizons,
consistent and granular models, Banking/trading book boundary review, interest rate risk in banking book to be pillar 1 subject to separate review
Derivatives OTC and via CCPs – Absorbs high quality liquid assets as more collateral is requiredMore to come? Banking Union in Eurozone Common deposit guarantee schemes across Europe
For Investors Investors also have new regulation (Solvency II, Money Market Fund – SEC cannot agree -
etc) which will alter demand for bank paper
19
Changes in Regulation (3) It still keeps coming:Examples of Regulatory Papers Since Mar 2012
BIS: Fundamental Review of the Trading Book (May 2012)BIS: Principles for effective risk data aggregation and risk reporting (June 2012)BIS: A framework for dealing with domestic systemically important banks (June 2012)
BIS: Monitoring indicators for intraday liquidity management (June 2012)BIS/IOSCO: Margining for OTC derivatives (July 2012) BIS: Management of risk in foreign exchange transactions (Aug 2012)BIS: Core principles for Effective Banking Supervision (Revised) (Sep 2012)
Crown Dependencies: DP on Basel 3 in Channel Islands and Isle of Man (Sep 2012)
EBA: Technical standards for Reporting Leverage Ratio and Liquidity (June 2012)
EU: Crisis Management – Bail in (June 2012)EU: Banking Union (Sep 2012)
FSA: CP12/23 Implications of non-EEA national depositor preference regimes (Sep 2012)FSA: CP12/24 Regulatory Reform (PRA/FCA Rule books) (Sep 2012)FSB: Shadow Banking April 2012; EU Green paper Shadow Banking (Mar 2012)FSB: Report on Securities Lending and Repos (Apr 2012)
HMT: Independent Banking Commission – Sept 2011 – White paper (June 2012)HMT: New Regulatory Regimes in UK (FSA/HMT) 2011– White paper (June 2012)HMT: Wheatley Review on LIBOR (Aug 2012) HMT: Setting the Strategy for UK Payments (July2012)HMT: Financial Sector Resolution: Broadening the Game (Aug 2012)
2020
Credit Rating Agencies: Changed Perception of the Banking Industry
In the wake of the global financial crisis Credit Rating Agencies (CRAs) have come under increased scrutiny; the crisis highlighted that ratings were previously overstated
The value of government support to financial institutions became very apparent throughout the crisis and support was extended in ratings, for example systemic support extended to five notches of ratings benefit for some UK banks
More recently, CRAs have made concerted efforts to be more cautious in their ratings. They have recalibrated bank ratings and their perception of the banking industry is now more negative than at the onset of the crisis
Investment banking activities in particular are viewed as being credit negative due to volatility of earnings, opaqueness and vulnerabilities relating to confidence sensitivity
This changed perception has been reflected in the downward revision of multiple bank ratings; bank ratings criteria have been amended accordingly with the main losers being large universal banks
Additionally, moves to address the “too big to fail” problem, through overhaul of bank regulations and support frameworks, further places systemic support assumptions under pressure
2121
Recent Areas of CRA Focus
Updated ratings methodology to restrict qualitative ratings benefit for firms that undertake significant capital market activities
Consider global capital market firms to be inherently vulnerable to:
confidence sensitivity;
interconnectedness;
opacity of risk
Moody’s believe these firms have diminished longer term profitability and growth prospects
Downgraded long term ratings of 17 universal banks by one to three notches, includes firms such as RBS, Barclays, UBS, Citi, BoA, Goldmans
Revised bank ratings criteria to enhance comparability of bank ratings with other sectors and improve ratings transparency
Large universal banks main losers, many being downgraded by one notch
Lowered systemic support assumptions included in some UK bank ratings (Lloyds and RBS downgraded two notches)
Fitch state “ …there is more advanced political will to reduce the implicit support for the country’s banks…”
Multiple negative rating actions have been undertaken since the start of 2011 including:
Fitch October 11 Moody’s Mar-Jun 12
S&P November 11
2222
The Link between Bank and Sovereign Ratings
Multiple banks are currently assigned Negative rating outlooks indicating further downgrades are likely
Additionally:
CRAs consider sovereign ratings and bank ratings to be inextricably linked. This is evidenced, for example, by:
Sovereigns extending banks capital support, liquidity support, asset insurance and guarantees in times of stress
Significant levels of sovereign debt held by banks
The link between a sovereign’s monetary system to its economy and the impact of a poor economic environment on bank performance
Currently the ongoing Eurozone crisis is placing further pressure on bank ratings due to the difficult operating environment and weakening sovereign strength
23
Low interest rates impact bank returns
0%
1%
2%
3%
4%
5%
6%
7%
Jan
32/0
5
Jul 3
2/05
Jan
33/0
6
Jul 3
3/06
Jan
34/0
7
Jul 3
4/07
Jan
35/0
8
Jul 3
5/08
Jan
36/0
9
Jul 3
6/09
Jan
37/1
0
Jul 3
7/10
Jan
38/1
1
Jul 3
8/11
Jan
39/1
2
Jul 3
9/12
Bas
e ra
te
1932-1939 2005-2012
UK Base Rate
24
Source: National central banks, JPMorganSource: National central banks, JPMorgan
At end 2011 central bank balance sheets were back in focus following the ECB’s 3-yr LTRO which boosted the ECB’s total balance sheet by around 5% of GDP. The ECB had expanded its balance sheet more than any other in the closing months of 2011 – 5% of GDP over the last three months compared to 3% in the UK, 0.6% in the US and 0.4% in Switzerland. The ECB had the largest balance sheet of the G4, equivalent to 30% of GDP compared to 20% for the Fed and the BoE. No central bank comes close to the SNB, however, whose balance sheet stands at 70% of GDP.
In 2012 the ECB continued to grow its balance sheet with the 3-yr LTRO on February 29 adding another c5% of GDP to the central bank’s assets and monetary base. The Fed’s announcement in September could add $1.5trn to its balance sheet.
The ECB expanded its balance sheet more than any other in closing months of 2011
Eurozone Crisis: ECB in the context of other Central Banks
The ECB’s balance sheet has grown faster than others in recent months, aggravated by the 3-year LTRO. The ECB’s balance sheet is now the largest of the G4 (30% of GDP). The Fed is at 20%
Expansion in the ECB’s monetary base is less pronounced that the growth in its balance sheet. It nonetheless contrasts clearly with the US monetary base which has stagnated over the past half year
0%
5%
10%
15%
20%
25%
30%
Jan-07 Jul-07 Jan-08 Jul-08 Jan-09 Jul-09 Jan-10 Jul-10 Jan-11 Jul-11 Jan-12 Jul-12
Date
Euro US UK Japan
0%
5%
10%
15%
20%
25%
30%
35%
Jan-07 Jul-07 Jan-08 Jul-08 Jan-09 Jul-09 Jan-10 Jul-10 Jan-11 Jul-11 Jan-12 Jul-12
Date
ECB Fed BOE BOJ
26
Summary
Banks will have a continued need to issue term debt
To manage their maturity transformation
To meet “Bail-In” objectives
Secured Debt is an effective way of managing cost but there are limits to encumbrance for unsecured debtors
Banks will also have continuing and increasing demand for high quality collateral for managing liquidity and to manage credit risk
Investors meanwhile see many challenges to investing in banks
The Euro crisis continues to put strain on the system