On Eurozone banks’ funding profiles
Reuters states that Eurozone banks’ woes are not only due to the quality of their assets but also to their funding profile. Their loan to deposit ratio is too high, i.e. the size of their loan book is bigger than their deposit base. That difference has to be funded in the bond market, which tends to seize up in times of uncertainty, as it did this summer. Quoting from the article:
At Paris-based Societe Generale, loans are 1.2 times as much as deposits, according to data compiled by Keefe, Bruyette & Woods. Dexia, the Franco-Belgian bank headquartered in Brussels, has 2.5 times as much money out on loan as it has in deposits.
At New York-based JPMorgan in comparison, loans use only two-thirds of the money the bank holds in customer deposits.
For the Eurozone at least, these headline numbers are confirmed in a 2009 speech by ECB governing body member Gertrude Tumpel-Gugerell (see chart 2.b). However, the numbers in that chart also take longer-term market-based funding into account, such as securitised instruments.
That is a significant factor in estimating the Eurozone banks’ risk profile. They could fund the gap between loans and deposits with other instruments than the short-term money market instruments the Reuters article focuses on. This includes very safe forms of securitised funding such as covered bonds and Pfandbriefe, and indeed, from today’s FT:
ING has sold the first significant covered bond in Europe in almost two months, in a sign of a potential thaw of the worrying freeze in banks’ most highly rated tools for long-term funding.
So how disruptive turmoil in the money markets is for Eurozone banks is hard to ascertain from the loan to deposit ratio alone, the funding mix is also important. Unfortunately banks do not publish a lot of data on this so it’s hard for an outside investor to do a fine-grained assessment.
The nature of the assets the bank holds matters as well. Dexia historically is a provider of credit to local authorities, and issued bonds to fund these loans that were seen as “gilt-edged”, both because the local authorities were deemed good credits and because it had an implicit government guarantee. All this means Dexia has a large retail investor base for their bonds, that is generally less fickle than professional money market investors.
Lastly, the contrast to the US is a bit disingenuous since the bulge-bracket investment banks like Goldman Sachs and Morgan Stanley have next to no deposit base at all and are completely reliant on the wholesale funding market. This is exactly the reason why Lehman Brothers and Bear Stearns seized up during the crisis.
Update: the FT’s Gillian Tett broaches the same subject in her latest column. The linchpin of the argument is that Eurozone banks are in trouble because US money market funds are no longer rolling over debt. In the article however she acknowledges that most short-term funding is euro-denominated and the dollar funding gap is much smaller than before the crisis. I can see the psychological effect the money market funds’ behaviour can have, but economically I doubt the situation is as bad as it is made out to be, especially considering no institution used the ECB’s dollar funding facility this week.
