Quelle surprise. European banks have largely passed the stress tests designed to show whether they need to raise more capital, with the European Banking Authority (EBA) saying that by and large, financial firms are well and healthy.
You can check the results in depth on the EBA's website and analyze each and every bank's result to your heart's content. In fact, the biggest positive takeaway from these tests is transparency. Investors are free to take a look at the figures and draw their own conclusions.
So far, they seem pleased. European stock markets opened cautiously higher, with even banks that showed some weakness in the tests, such as Royal Bank of Scotland (RBS) or Barclays (BCS) , rising slightly in London morning trading. It is true that later in the day, some banks suffered. Shares in Italy's UniCredit, a systemically important bank with high exposure to eastern Europe, fell by around 8%, were suspended, then resumed trading.
No bank actually failed, but perhaps the fact that there weren't any fail/pass marks this time helped. But with the exception of Italy's Monte dei Paschi di Siena, which posted a negative Common Equity Tier One Capital figure (CET1) in the adverse scenario, all banks look relatively OK.
And Monte dei Paschi di Siena, which is the world's oldest bank, took steps over the weekend to address its woes. The bank announced a "structural and definitive solution" to its bad loans by putting them all in a securitization vehicle at a price of around 9.2 billion euros ($10.3 billion), or 33% of gross book value. Monte dei Paschi di Siena then launched a plan to recapitalize the remaining "good" bank to the tune of 5 billion euros.
Meanwhile, Deutsche Bank (DB) , the eternal worry for investors because of its size and the complicated structure of its business, fared better in this year's stress tests than it did two years ago. Its CET1 fell to 7.8% in the adverse scenario, compared to 7% in the 2014 stress tests.
The bottom line: All's well that ends well. Except, of course, that the fears over European banks' health are likely to return despite the stress tests' rosy results.
One reason for worry could be the stress tests' worst-case scenario, which imagined three years of shocks at a macroeconomic and financial level and looked at how they would affect 51 European banks' capital positions. The test's hypothesis was actually less bad than the actual European Union GDP contraction between 2008 and 2010, which totaled around 2%. By contrast, the stress tests only assumed a 1.7% total EU GDP shrinkage between 2015 and 2018.
Another reason for worry could be that the tests are backward-looking. They are ignoring the fast changes in technology and consumer habits that represent future challenges for banks.
"To some extent, stress testing banks' capital in relation to (legacy) asset quality and misconduct is projecting forward yesterday's problems," said Sam Theodore, the head of the bank ratings team at European credit rating agency Scope.
Theodore warned that European banks are faced with a low-to-negative interest rate environment for longer, which makes it more difficult for them to make money. At the same time, fees and commissions, which were an important source of revenue, are coming under pressure as competition heightens.The experts at Scope believe that there is "significant excess capacity" in Europe's banking sector. This will need to be addressed in the years ahead, with many big banks continuing or even intensifying their efforts to close branches and shed staff. Future stress tests would do well to add structural reforms to their scenarios.