The 4 Rs of U.S. Banking: Rates, Regulation, Resolution, and Relevance

Transcription

1 The 4 Rs of U.S. Banking: Rates, Regulation, Resolution, and Relevance

2 The Four Rs of U.S. Banking Rates: How Will Rising Rates and Economic Growth Affect U.S. Banks? Regulation: Are We There Yet? Resolution: Is TBTF Resolved? Relevance: How is the Growth of Shadow Banking Affecting Commercial Banks? 2

3 The Four Rs of U.S. Banking Rates: How Will Rising Rates and Economic Growth Affect U.S. Banks? Regulation: Are We There Yet? Resolution: Is TBTF Resolved? Relevance: How is the Growth of Shadow Banking Affecting Commercial Banks? 3

4 Rates and GDP Growth Expecting Higher Rates and Stable Economic Growth Fitch U.S. Economic Forecast (%) 12 Real GDP Growth Inflation Unemployment Short-term Policy Rate Brent Crude (LHS) (USD/bbl) f 2016f 0 Source: Fitch Global Economic Outlook 4

5 Loan Growth Well Below Historical Averages, Commercial and Industrial (C&I) the Exception Loan growth since the end of the recession well below prior recoveries C&I loan growth solid, offset by run-off in home equity, mortgage and construction Strong Price and Terms Competition for C&I, New Entrants Asset quality remains very good expect some deterioration in loan losses Total Loan Growth Post-Recession (End of Recession = 100) Mar Nov Mar Nov June Years Since End of Recession C&I Loan Growth Post-Recession (End of Recession = 100) Mar Nov Mar Nov June Years Since End of Recession Source: Federal Reserve 5

6 Higher Rates Will Effect Regulatory Capital and Deposit Betas for Large U.S. Banks Implications for Regulatory Capital w/100bps Shock Base Case +100bps Shock Assets Loans 75,000 75,000 MBS 20,000 19,246 Credit Investments 5,000 4,843 (Munis, CMBS, Corp) Total Assets 100,000 99,089 Liabilities Deposits 91,000 91,000 Total Liabilities 91,000 91,000 Capital Common Stock 9,000 9,000 Other Comprehensive 0 (911) Income/Loss Total Capital 9,000 8,089 CET Change in Cost of Interest-Bearing Deposits vs. Fed Funds ( ) 2007 (RHS) 3% 2% 56.8% 2% 1% 1% 0% Average Cost of Interest Bearing Deposits at 2Q04 (LHS) Peer Group Average Implied Beta, % 53.5% 53.3% 1.10% 1.28% 1.38% 1.48% Large Regionals* Community Mid-Tiers GTUBs** * Excludes Capital One Financial ** Includes Bank of America, Citigroup, and JPMorgan Chase Source: Bank Regulatory Filings 60% 50% 40% 30% 20% 10% 0% 6

7 The Four Rs of U.S. Banking Rates: How Will Rising Rates and Economic Growth Affect U.S. Banks? Regulation: Are We There Yet? Resolution: Is TBTF Resolved? Relevance: How is the Growth of Shadow Banking Affecting Commercial Banks? 7

8 Tiered Regulatory System for U.S. Banks One Size Does Not Fit All Anymore Banks over USD250bn in Assets* LCR NSFR* Enhanced SLR CCAR / DFAST GSIB Surcharge TLAC Living Will Volcker Rule AOCI in Reg. Capital Banks between USD50-250bn in Assets* Modified LCR CCAR / DFAST Living Will Volcker Rule AOCI in Reg. Capital* Banks under USD50bn in Assets DFAST Volcker Rule 8

9 GSIB Surcharge Highlights Tiered Regulatory Approach The Federal Reserve s has proposed a secondary GSIB surcharge calculation incorporating reliance on short-term wholesale funding Method 2 likely to result in higher GSIB surcharges than current FSB proposals Reliance on Short-Term Wholesale Funding vs. G-SIB Buffers (ST Fundings to Total Liabilities as of March 31, 2015) 40% 35% 30% 25% 20% 15% 10% 5% 0% Short-Term WSF / Total Liab. FSB GSIB Buffer GS MS C JPM BAC BNY WFC STT Source: Regulatory Reports Short-Term WSF defined as: Fed funds purchased, repurchase agreements, CP, trading liabilities and borrowings with a maturity of less than one year 3.0% 2.5% 2.0% 1.5% 1.0% 0.5% 0.0% 9

10 What Have Been the Intended and Unintended Consequences from Financial Reform Intended Consequences Better capitalized banks, with stronger liquidity even during periods of economic or financial stress End Too Big to Fail and government support for banks Rigorous stress testing requirements (CCAR) to determine capital distributions Unintended Consequences Reduced market liquidity and higher asset price volatility as bank balance sheets become constrained M&A less likely option for troubled banks in a crisis given recent experience Banks becoming more homogenous as uniform stress testing incents banks to look more alike Cultural change to drive greater respect for laws, rules and regulations Less risk/volatility in bank earnings Banks becoming more focused on managing regulatory rather than fundamental risks Potential slower economic growth 10

11 Bank Regulation Mostly Finished, a Few Outstanding Items Remaining Net Stable Funding Ratio (NSFR) U.S. regulators have not yet proposed NSFR rules Total Loss Absorbing Capital (TLAC) U.S. regulators have not yet proposed TLAC rules GSIB Buffer U.S. regulators have proposed two methods for calculating GSIB buffer Method 1 consistent with Basel III Method 2 incorporates reliance on short-term wholesale funding U.S. GSIBs subject to the higher of Method 1 or Method 2 Method 2 likely to be binding constraint for most of the U.S. GSIBs 11

12 The Four Rs of U.S. Banking Rates: How Will Rising Rates and Economic Growth Affect U.S. Banks? Regulation: Are We There Yet? Resolution: Is TBTF Resolved? Relevance: How is the Growth of Shadow Banking Affecting Commercial Banks? 12

13 Failed Bank Resolution A Two Tier Process For most U.S. bank holding companies and banks, failure handled no differently than pre-crisis Banks under USD50 billion in assets mainly subject to traditional resolution procedures Bank holding company subject to U.S. Bankruptcy code (Chapter 7 or 11) Subsidiary banks subject to FDIC Receivership and resolved under least cost 13

14 Orderly Liquidation Authority (OLA) and Single Point of Entry Consolidates Resolution with FDIC OLA may apply to covered financial companies, i.e. over USD50 billion in assets or otherwise designated as systemically important FDIC and FRB jointly recommend to U.S. Treasury that Institution is in default or danger of default; the default would have serious adverse effect on the financial stability of the U.S.; no viable private sector alternative is available to prevent the default; invocation of OLA is appropriate to mitigate such adverse effects 14

15 Single Point of Entry Empowers FDIC to Take Over Top Level Holding Company and Most Subsidiaries Holding company debt converted to equity at Bridge Bank Receivership Estate Bank Holding Company Bridge Bank Domestic Bank Domestic Broker- Dealer Domestic Bank Domestic Broker- Dealer Foreign Branch Foreign Broker- Dealer Foreign Branch Foreign Broker- Dealer 15

16 U.S. TLAC Requirements Not Yet Proposed, but at Least FSB Minimum Maybe Higher TLAC Buffers (%) Estimated Basel III CET1 H/C Debt + All Hybrids / RWA (%) FSB Proposed Min. TLAC FSB Proposed Max. TLAC Fitch Estimated TLAC BAC BK C GS JPM MS STT WFC Source: Fitch, Federal Reserve Y9LP, Issuer SEC filings and investor presentations 16

17 What s Left to Do? Living Wills Most have been rejected by Federal Reserve and FDIC Largest U.S. Banks will need to resubmit living wills in July Derivatives Changes to ISDA agreements to more broadly limit termination provisions Internal TLAC for foreign subsidiaries Will need to be prepositioned 17

18 The Four Rs of U.S. Banking Rates: How Will Rising Rates and Economic Growth Affect U.S. Banks? Regulation: Are We There Yet? Resolution: Is TBTF Resolved? Relevance: How is the Growth of Shadow Banking Affecting Commercial Banks? 18

19 Banks Continue to Play Key Intermediary Role Banks still serve an important role in originate and distribute model A lot of the risk remains within the banking system, despite shadow bank growth Loan origination continues to rise amid strong demand by CLOs, bond funds and other players Institutional Leverage Loan Issuance at Highest Levels (USDbn) /14 YTD Year to date. Source: Fitch U.S. Leveraged Loan Default Index, Thomson Reuters LPC, Bloomberg YTD with CLOs as Significant Investors (USDbn) Source: RBS, Fitch YTD Bond Mutual Funds Have Grown (USDbn) Investment Grade High Yield 2,000 1,500 1, Source: Investment Company Institute Factbook, Fitch Driven by Strong Net Inflows (USDbn) High Yield (20) Source: Investment Company Institute Factbook, Fitch 19

20 However, Bank Regulation Constraining Balance Sheets Corporate Bond Issuance Exceeds Pre-Crisis Levels U.S. Corporate Bond Issuance Remains Strong (USDbn) 1,600 1,400 1,200 1, H14 Source: SIFMA, Fitch 20

21 Alternative Investment Funds Replacing Bank Capital PE Firms Are Expanding Credit Capabilities Rated PE Firms' Credit FAUM (USDbn) Q14 Source: Company filings, Fitch Hedge Funds Have Grown at a Rapid Clip Hedge Fund AUM (USDtrn Q14 Source: Hedge Fund Research, Fitch and Sitting on Significant Dry Powder (USDbn) PE Credit Fund Uncalled Capital Source: Preqin (includes all PE firms tracked by Preqin) (USDbn) BDC Loan Portfolios Q14 Sep 14 as have Business Development Companies Note: Contains eight BDCs rated investment grade by Fitch Source: Company filings, Fitch 21

22 Bank Lending to Shadow Banks Creates Feedback Loop if There are Problems in the Shadows Commercial Bank Lends to Shadow Bank Commercial Bank Asset Quality Comes Under Pressure Shadow Bank On-Lends Proceeds to Customers Shadow Bank Unable to Repay Loan to Commercial Bank Customer Defaults on Loans Increase 22

23 Despite Environmental and Regulatory Pressures, Banks Still Perform Vital Functions Financial Market Intermediation Credit Allocation Banks Custody, Clearing and Payment Systems Maturity Transformation 23

24 Q: What will have the greatest impact on bank balance sheets and performance? A. Rising interest rates It will be different this time 67% B. Impact of regulation Lower structural returns and elevated compliance costs C. Growth of shadow banks Financing migrating to more nimble non-banks D. Asset quality mean reversion Current strong asset quality below long-term trends 16% 8% 8% A. B. C. D. 24

25 Bank Holding and Operating Company Notching Drives Recent Rating Actions U.S. GSIBs Holding Company and Key Subsidiaries Issuer Current IDR Current VR Current Outlook Previous IDR Previous VR Previous Outlook Bank of America Corporation A a Stable A a- Negative Bank of America N.A. A+ a Stable A a- Negative Merrill Lynch, Pierce Fenner & Smith A+ Stable A Negative Bank of New York Mellon Corporation (The) AA- aa- Stable AA- aa- Stable The Bank of New York Mellon AA aa- Stable AA- aa- Stable The Bank of New York Mellon S.A./N.V. AA- aa- Positive AA- aa- Stable Citigroup Inc. A a Stable A a Stable Citbank, N.A. A+ a Stable A a Stable Citigroup Global Markets, Inc. A+ Stable A Stable Citigroup Global Markets Limited A Positive A Stable Goldman Sachs Group, Inc. A a Stable A a Stable Goldman Sachs Bank, USA A+ a Stable A a Stable Goldman Sachs & Co. A+ Stable A Stable Goldman Sachs International A a Positive A a Stable JPMorgan Chase & Co. A+ a+ Stable A+ a+ Stable JPMorgan Chase Bank N.A. AA- a+ Stable A+ a+ Stable J.P. Morgan Securities LLC AA- Stable AA- Stable Morgan Stanley A a Stable A a- Stable Morgan Stanley Bank N.A. A+ a Stable Stable State Street Corporation AA- aa- Stable AA- aa- Stable State Street Bank and Trust Company AA aa- Stable AA- aa- Stable Wells Fargo & Co. AA- aa- Stable AA- aa- Stable Wells Fargo Bank N.A. AA- aa- Stable AA- aa- Stable Wells Fargo Securities International Limited AA- Positive AA- Stable 25

26 U.S. has moved towards multi-tiered regulatory framework based on asset size Growth in shadow banking challenges traditional banks, although they will remain vital providers of financial services Rising rates may impact balance sheets and income statements differently than in prior rate cycles U.S. has made notable progress towards a credible big bank resolution framework Bank fundamentals remain healthy and improving supporting a Stable Rating Outlook on the sector

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