Picked up my favourite magazine, Bloomberg Markets, and splashed as one of the top articles was The World's Strongest Banks. The list is all too predictable but this is where STATISTICS LIE. I am not saying the banks weren't great, but they are not as great as the article made them out to be.
I have no questions about the methodology as they looked at the usual Tier 1 capital to risk weighted assets, NPL to total assets, loan loss reserves to non performing assets, deposits to funding and efficiency (costs to revenue).
Singapore banks came in numbers 1, 5 and 6. Canadian banks came in 3, 4, 12, 17 and 19. What's the common denominator - strong property markets. If the Singapore and Canadian property markets were to fall 20%, I can assure you the whole lot would be out of top 20.
The article seems to be pushing for banks to remain traditionally old school banks. Nothing wrong with that. But how can a bank be strong just because other property markets have fallen substantially but their local turfs have not - I would take that with a grain of salt.
The second argument is that banks that do little or none of the exotics, derivatives, tend to do a lot better. Again, don't blame the weapons, blame the person operating the weapons. The risk is not in derivatives or exotics but risk management, or in the banks' case, the number of times capital was leveraged.
Yes, plenty of major banks over geared their balance sheet, but they were paid to be aggressive. The true mettle of a strong bank is to provide as many services as possible, pushing the envelope, and yet managing their risks well. Those banks that just do the humdrum may be solid but they will eventually be eclipsed, or be masters of their small pond only.
To that end, I would not be moved by an article about World's Strongest Banks but rather the World's Great Banks (which would not just measure provisions and deposits but how they continued to be in the forefront of expansion and global conquerors). Yes, many of those global conquerors have been decimated, but herein lies the next wave of kings. The real kings will never come from the DBS or OCBC or Toronto Dominion.
What's more relevant is to look further down the list and to see some of these battered down conquerors still making the list after plentiful of writedowns, smacks on their bottoms for misusing their balance sheet, taken govenment aid and repaying back. To me, these are the Great Banks, if you do not push the envelope, you would never be kings, just a kampung player.
To follow on, I would note these following banks with greater respect: #9 UBS, #13 Credit Suisse, #14 JP Morgan, #16 Citigroup.
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The Bloomberg piece:
Ask David Conner, chief executive officer of Oversea-Chinese Banking Corp., what makes a world-class bank and he smiles and tells the story of how he was hired. It was April 2002, and Singapore’s banks faced a struggling economy, poor demand for credit and rising competition from foreign lenders that had just won greater access to the Singaporean market.
Conner, then 53, had taken charge of OCBC after 25 years as an executive at Citigroup Inc divisions in Singapore, India and Japan. When Conner -- who grew up in St. Louis -- sat down with OCBC’s top directors, they told him they wanted him to make the lender a world-class bank, Bloomberg Markets magazine reports in its June issue.
“What is a world-class bank to you?” Conner asked.
One board member responded, “You tell us.”
Conner worked up a presentation outlining his goals. Among the high points: focus on the customer, establish a strong capital base and minimize risks. He appears to have achieved those goals. Based on its performance for the 2010 fiscal year, OCBC, founded in 1932, ranks as the world’s strongest bank, according to data compiled by Bloomberg.
OCBC is one of three Singaporean banks that make the top six in the Bloomberg Markets ranking. The other country that’s prominent on the list is Canada. National Bank of Canada is No. 3, and the country has five banks in the top 20.
No. 2 is Svenska Handelsbanken of Sweden.
Size Overrated
Canada’s performance in the ranking “shows that size is not everything in financial services,” says Louis Vachon, CEO of National Bank.
Just three U.S. banks - Fifth Bancorp (No. 7), JP Morgan (No. 14) and Citigroup (No. 16) -- make the top 20.
The ranking includes banks with at least $100 billion in assets. It weighs and combines five criteria, including Tier 1 capital compared with risk-weighted assets; nonperforming assets compared with total assets; and efficiency, a comparison of costs against revenues.
Tier 1 capital includes a bank’s cash reserves, outstanding common stock and some classes of preferred stock, all of which combine to act as a shock absorber against losses when the economy hits a rough patch.
“Singapore banks would score very high here largely because, historically, the Monetary Authority of Singapore has always required Singapore banks to keep more Tier 1 capital than other banks,” Conner says.
DBS, UOB Also on List
The MAS is both the central bank and chief regulator of Singapore’s financial system.
Singapore’s DBS Group ranks No. 5, while UOB is No. 6. OCBC has operations in 15 countries, including a strong presence in China, HK, Indonesia, Malaysia and Taiwan. It was founded by the Lee family, and their descendants are still the biggest shareholders.
Billionaire Lee Seng Wee, 80, is a former chairman of the bank and still sits on its board. His son, Lee Tih Shih, 47, is also a board member.
Hugh Young is a Singapore-based managing director of Aberdeen Asset Management. Aberdeen owns about 6 percent of OCBC and more than 4 percent of UOB. Young says he’s not surprised that Singaporean banks score so highly on a global ranking.
‘Stupid Things’
“We are big holders of OCBC and UOB and have been for a long time simply because they don’t do the stupid things Western banks do,” says Young, who helps manage $70 billion in Asian equities. “They don’t do things like lending 120 percent of the value of a property to people without a job, and they don’t do stupid things in the derivatives markets and proprietary trading.”
Not all of the strongest banks are exemplars of smart banking practices. No. 16 Citigroup was rescued by $45 billion in U.S. Treasury loans and investments in 2008 after it was deemed by the Federal Reserve, the Federal Deposit Insurance Corp. and the Treasury to be “systemically important.” Its stock has quadrupled since it hit its all-time low on March 5, 2009. At the end of last week Citi did a reverse split of its shares, which raised the price ten-fold, to $44.16 at the close of trading May 9.
Citi Recovery
“Citi is a much underappreciated recovery story,” says Kevin Conn, an equities analyst and co-head of the financial services research team at Boston-based MFS Investment Management. “They overmedicated the balance sheet, raising too much equity and setting up massive reserves. It’s a very strong balance sheet at this point.”
All major banks march to the tune of the Basel Committee on Banking Supervision, an arm of the Bank for International Settlements, based in Basel, Switzerland. The committee issued its first internationally agreed upon capital guidelines, known as Basel I, in 1988. The early rules focused narrowly on banks’ credit risk: the possibility that borrowers might not pay back their bank loans. The committee recommended that banks’ cash reserves, common and preferred stock total at least 4 percent of assets.
The rules changed in 2004 with the adoption by regulators of Basel II, which set more-sophisticated guidelines for how to assess and quantify the risk of a bank’s assets, much as a modern blood test breaks down cholesterol into good HDL and worrisome LDL.
Risk-Weighted Assets
Under the standard Basel II guidelines, just 35 percent of a mortgage issued to a family with an excellent credit history would be counted as a risk-weighted asset, while an investment in a hedge fund would get counted for risk purposes at 400 percent of the amount invested.
Bank managements aim to keep their risk-weighted assets -- the bad cholesterol -- low because regulators insist that banks hold precious capital, such as retained earnings, against it.
The 2008 to 2009 financial breakdown sent regulators hurrying back to Basel to rewrite the rules one more time. Basel III, whose basic outlines were approved in November, raises requirements for Tier 1 capital to 6 percent starting in 2015. Basel III also phases in extra capital cushions for very large banks, which could take the total capital requirement north of 10 percent.
Full implementation of Basel III will be phased in over six years to assuage fears by both bankers and regulators that the new capital rules would suppress lending if implemented too quickly.
Warning Labels
“Broad-brush-stroke regulatory changes should come with a warning label and with sufficient time for informative exchanges between affected parties,” wrote Donna Alexander, CEO of BAFT- IFSA, a banking-industry trade group, in a September note to members.
Although Asian banks have fared better than their Western counterparts in the downturn, Conner also worries about the impact of Basel III’s capital requirements.
“Keeping the capital ratio high all the time makes it potentially difficult to expand,” he says. “We are operating under considerable uncertainty, and as a result, we’ve added significant amounts of capital.”
Some banks cruise far ahead of regulators.
“For Canadian banks, having higher capital ratios than anyone else in the world is a source of pride,” says Mario Mendonca, a financial services analyst at investment firm Canaccord Genuity in Toronto. Canada’s banks held average Tier 1 capital of 9.8 percent in 2008, as the financial crisis set in.
No Crisis at Canada Banks
The extra cushion paid off when U.S. banks teetered on the edge of failure in the fall of 2008 and had to be bailed out with $700 billion from the Treasury.
“We all went into the downturn with very strong quality of capital,” says Edmund Clark, CEO of Canada’s Toronto Dominion Bank, No. 12 on the strongest-bank list. Canada also suffered a much milder housing downturn than the U.S.
U.S. banks, meanwhile, are still working to implement the 2004 Basel II accords.
“Currently, in the U.S., none of the banks are calculating their capital requirements based on the Basel II numbers,” says Hugh Carney, senior counsel at the American Bankers Association.
The banks, Carney says, are in a transitional phase called a parallel run, which means they are still operating under Basel I and are testing and calibrating the risk sensitivity of their loans and investments under Basel II. U.S. banks will only shift to Basel II risk assessments once the Fed approves their risk- weighting methodology, Carney says.
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