Banks trim risk but fail to raise provisions ahead of EU review

Most of Europe's big banks shed risky assets in the quarter to September, but they have yet to take extra provisions against doubtful loans to show they have put the financial crisis behind them in time for a critical review by regulators.

After reckless lending brought several banks and some governments to their knees during the global crisis, which is still playing itself out in a number of euro zone countries, next year's Asset Quality Review (AQR) by the European Central Bank will judge whether the banks have done enough to recognize and provide for losses on their loan books as of December 31.
The results feed into EU-wide stress tests that assess whether banks need to raise more capital to insulate themselves against future economic and financial shocks.

A Reuters analysis of the third-quarter results of Europe's 30 largest banks found that almost two thirds of the 27 that report detailed quarterly figures said their balance sheets were less risky at the end of September than at the end of June.
Cutting risk means they need less capital.

Assets such as unsecured personal loans, distressed commercial loans and certain derivatives carry a higher risk weighting, while government bonds are unweighted.

Swiss bank UBS cut 9 billion Swiss francs ($10 billion) of risk-weighted assets (RWA) in the quarter by exiting derivatives positions, while Spain's Bankia traded risky real estate assets with national "bad bank" Sareb for 19.5 billion euros ($26.6 billion) of government-guaranteed bonds.

But almost two thirds of the banks took lower charges for loan losses in the third quarter than a year earlier, and the 'coverage ratio' - what they set aside for losses relative to their stock of impaired loans - rose only marginally.

John Paul Crutchley, co-head of European banking at UBS, thought they would have increased provisions, drawing a parallel with the way U.S. banks position themselves and their balance sheets before the Federal Reserve's annual review, so the review won't unearth nasty surprises.

"It's probably because at the Q3 stage there was a complete unknown about how the ECB was going to conduct these asset quality reviews (in euro zone countries) and stress tests," London-based Crutchley added.

He and Berenberg's London-based banks analyst James Chappell expect to see more action in the fourth quarter, as banks learn more about the standards the ECB will apply in the euro zone and national regulators will apply elsewhere.

At a recent industry event in Brussels, the head of the ECB's AQR working group, Dutch regulator Anthony Kruizinga, was asked how banks should prepare their year-end statements if details of the AQR remain unclear. Banks should be more prudent, he replied. The DNB and ECB both declined to elaborate.