News


27/03/2017


Flagstone Bank Credit Update 27 March 2017

Weekly Headlines:
  • Rising food and energy prices helped push last month’s CPI inflation rate to its highest level since September 2013 as it rose to 2.3% in February from 1.8% in January.
  • The Bank of England expects inflation to peak at 2.8% next year although some economists think the rate could rise above 3.0%.
  • Dr Gertjan Vlieghe, a member of the rate-setting Monetary Policy Committee (MPC) has commented that higher inflation even to 3.5% may not necessarily lead to an interest rate rise as it will depend on the cause.
  • The ONS has reported that borrowing by the UK Government fell last month to its lowest level for February in 10 years at £1.8bn which was down from £4.6bn a year earlier.
  • Analysts believe that the Bank of England has called in Deutsche Bank as advisers to draw up contingency plans for a possible closure of the Co-operative Bank plc which is under intensive regulatory supervision.
  • UK banks are preparing for a new round of stress tests by the regulator which are set to be the toughest yet with Brexit and changing economic conditions in Europe triggered by political turmoil among the challenges that the big banks will have to show they can endure.
  • The SFO is believed to have extended its enquiries to include whether Barclays Bank plc illegally funded part of the £7.3bn capital injection from Middle East investors that rescued the bank in 2008.
  • The FTSE 350 Bank Index fell by 1.5% over the week to 4,222 to reflect the imminent triggering of Article 50 and despite encouraging annual banks results for 2016.
  • The ITRAXX Europe Senior Financials 5-year CDS Index rose by 5.9% over the week to 90bps to reflect Brexit uncertainties with the imminent triggering of Article 50 and future regulatory challenges.
General Commentary:

Rising food and energy prices helped push last month’s inflation rate to its highest level since September 2013. The latest figures from the Office for National Statistics (ONS) indicate that consumer price inflation (CPI) rose to 2.3% in February which was up from 1.8% in January. The increase pushed the rate above the Bank of England’s 2.0% target. Food prices recorded their first annual increase for more than two-and-a-half years.

The Bank of England (BoE) expects inflation to peak at 2.8% next year although some economists think the rate could rise above 3.0%. Although analysts do not expect a knee-jerk reaction from the BoE to raise interest rates just because of one month’s figures, the inflation rate is increasing at the same rate as average earnings. This means that the average pay rise is only keeping pace with increasing prices which is likely to dampen consumer confidence.

This view is supported by comments from Gertjan Vlieghe, a member of the rate-setting Monetary Policy Committee (MPC) that higher inflation – even to 3.5% – may not automatically lead to an interest rate rise as it will depend on the cause. If it results mainly from ‘pass-through’ of the inflation effects of the devaluation of sterling post-Brexit then inflation can fall as quickly as it rises unless it has an impact on monetary policy and future inflationary expectations.

On a more positive note, borrowing by the UK Government fell last month to its lowest level for February in 10 years according to the ONS. Reported borrowing (excluding state-owned banks) was £1.8bn which was down from £4.6bn a year earlier. Accumulated borrowing for the financial year-to-date has fallen by £19.9bn from last year to £47.8bn. Analysts said the figures meant that the government was on track to meet revised borrowing targets. In the Budget, the ONS had revised its end-of-year borrowing forecast to £51.7bn. The ONS reported that corporation tax receipts had risen by 21.3% in the first 11 months of the financial year to just over £50.0bn while income from tax and National Insurance contributions had risen by 6.5% to £280.0bn. However analysts caution that, despite the resilience of the economy so far since last June’s Brexit vote, a challenging road lies ahead.

The BoE has called in Deutsche Bank AG as advisers to draw up contingency plans for a possible closure of the Co-operative Bank plc which is currently under intensive regulatory supervision. Although the Co-op Bank itself insists a continuing sale process has attracted interest from credible bidders, should a sale not be agreed then the Co-op Bank will have to attempt to raise £750m in new capital. If this situation occurs then it is likely that the bank may need to be taken over by its lenders through a debt-for-equity swap overseen by the BoE. This would require investors to accept extremely poor terms under a ‘bail-in’ arrangement for the bank to raise sufficient capital.

Questions over the Co-op Bank’s future come at a time when other UK banks are preparing for a new round of stress tests by the regulator which are set to be the toughest yet. Brexit and changing economic conditions in Europe triggered by political turmoil could be among the challenges that the big banks will have to show they can endure as part of this year’s stress tests. The UK’s seven biggest lenders are braced for the details of the tests which the BoE will reveal this week. They are expected to be severe because the BoE wants financial institutions to build their resilience when the economy is healthy so that they can cope when it deteriorates. The results will be released towards the end of the year. Last year the test results revealed that the Royal Bank of Scotland (RBS) was the weakest big bank in the UK and was ordered to find an extra £2.0bn of capital so that it could be confident of surviving another financial crisis. Barclays Bank plc and Standard Chartered Bank also failed to meet some hurdles but were adjudged to have sufficient capital-raising plans in place. The lenders that are to be scrutinised this year will be the same as last year, namely: Barclays, HSBC, Lloyds, Nationwide, RBS, Santander and Standard Chartered.

The Serious Fraud Office (SFO) and the Financial Conduct Authority (FCA) have extended their enquiries into the £7.3bn capital injection from Middle Eastern investors into Barclays plc that rescued the bank from requiring a UK Government bailout in 2008. Court documents filed in a civil case related to the capital injection have drawn attention to a separate transaction at around the same time. Barclays lent £2.0bn to Qatar just weeks after the announcement of the role played by the Gulf state’s principal investment vehicle (Qatar Holdings) in contributing the same amount to the rescue. Qatar Holding is 100% owned by the state’s sovereign wealth fund, the Qatar Investment Authority. Barclays has denied that the two transactions were linked but the timing of the deals has prompted allegations of criminality as under the Companies Act 1985 it is unlawful for a bank to lend money to itself. The SFO has confirmed that it is conducting a criminal investigation into certain commercial arrangements between Barclays Bank and Qatar Holding in 2008 which had previously been thought to relate only to the £346m of fees that Barclays paid to Qatar at the time of the fundraising.

See below for 5-year CDS spread and share price movements for the last week.
5-YEAR CDS SPREADS AND SHARE PRICES
Movements over the Last Week
Date: 27th March 2017
5-Year CDS Spreads (bps) Equity Share Prices
24-Mar-17 17-Mar-17 Chg 24-Mar-17 17-Mar-17 Chg
ABN AMRO Groep N.V. n/a n/a n/a 22.90 23.52 -2.6%
Parent: Aldermore Group plc
Aldermore Bank plc n/a n/a n/a 2.23 2.26 -1.3%
Irish Sovereign
Allied Irish Banks 52 59 -11.9% 5.10 5.15 -1.0%
Parent: Arbuthnot Banking Group plc
Arbuthnot Latham & Co. n/a n/a n/a 14.40 14.00 +2.9%
Aust and NZ Banking Group Ltd 59 54 +9.3% 31.36 31.58 -0.7%
Banco Bilbao Vizcaya Argentaria S.A. 121 115 +5.2% 7.19 7.08 +1.6%
Parent: Barclays plc
Barclays Bank plc 74 70 +5.7% 2.27 2.30 -1.3%
BNP Paribas S.A. 92 83 +10.8% 60.46 60.28 +0.3%
Parent: Close Brothers Group plc
Close Brothers Limited n/a n/a n/a 15.41 15.80 -2.5%
Credit Agricole S.A. 82 74 +10.8% 12.28 12.31 -0.2%
Parent: Credit Suisse Group AG
Credit Suisse AG 104 106 -1.9% 14.60 15.48 -5.7%
Deutsche Bank AG 129 123 +4.9% 15.54 17.86 -13.0%
Parent: HSBC Holdings plc
HSBC Bank plc 63 58 +8.6% 6.48 6.59 -1.7%
Parent: ING Groep N.V.
ING Bank N.V. 63 60 +5.0% 13.76 14.38 -4.3%
Intesa Sanpaolo S.p.A. 143 137 +4.4% 2.54 2.48 +2.4%
Parent: Investec plc
Investec Bank plc n/a n/a n/a 5.97 5.99 -0.3%
Parent: Lloyds Banking Group plc
Lloyds Bank plc 63 59 +6.8% 0.68 0.69 -1.4%
Metro Bank plc n/a n/a n/a 33.33 33.03 +0.9%
Nordea Bank AB 49 46 +6.5% 100 102 -2.0%
Parent: RBS Group plc
Royal Bank of Scotland plc 89 84 +6.0% 2.39 2.44 -2.0%
Ult. Parent: Banco Santander S.A.
Santander UK plc 79 77 +2.6% 5.72 5.65 +1.2%
Shawbrook Group plc n/a n/a n/a 3.15 2.99 +5.4%
Societe Generale 91 84 +8.3% 47.32 47.11 +0.4%
Parent: Standard Chartered plc
Standard Chartered Bank 79 77 +2.6% 7.27 7.30 -0.4%
Svenska Handelsbanken AB 43 41 +4.9% 125 125 0.0%
Unicredit  S.p.A. 166 164 +1.2% 14.39 14.60 -1.4%
FTSE 350 BANK INDEX n/a n/a n/a 4222 4287 -1.5%
SNR FIN ITRAX CDS 5-YEARS    (ESTIMATED) 90 85 +5.9% n/a n/a n/a

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