Chinese bail-ins, Greek bonds and the Risk Awards

China warning spurs banks over bail-in debt plans

Competing for attention in global TLAC markets could drive up costs for Chinese lenders

Risk Awards 2019: The winners

BNP Paribas wins derivatives house; lifetime award for Craig Broderick; CME takes clearing house award

Greece slashes rates exposure with €35 billion swap programme

Sovereign debt agency entices 18 banks into hedging programme, locking in historic low rates on bailout loans

COMMENTARY: The TLAC whales

Three years ago, the Financial Stability Board’s (FSB) decision to give major Chinese banks a pass on its total loss-absorbing capacity (TLAC) rules raised a few eyebrows. The big four Chinese banks – Agricultural Bank of China, Bank of China, China Construction Bank and Industrial and Commercial Bank of China – are some of the largest in the world and qualify for global systemically important bank (G-Sib) status by any benchmark. In 2015, the FSB set minimum levels of capital and unsecured debt for G-Sibs at 16% of risk-weighted assets by 2019, rising to 18% in 2022. But it exempted China’s banks from the rules until 2025.

At the time, many market observers saw this as an unjustified giveaway to the Chinese institutions, but it was explained away by pointing to the relatively small size of the Chinese domestic corporate bond market, where the TLAC would have to be raised, and the dependence of Chinese banks on deposit funding, meaning that shifting to a bond-heavy funding model would be tricky. The sums involved are huge – the four banks had total RWA of 56.1 trillion yuan ($8.1 trillion) as of June 30 this year, implying a TLAC requirement of 9 trillion yuan.

But the first argument was the strongest – that China was an emerging market with a shallow bond market that simply couldn’t support the demands the big four banks would make. So the FSB included a caveat – if the Chinese bond market grew particularly strongly, the TLAC rule would kick in after a three-year waiting period. That seems to have happened – the market could reach 55% of Chinese GDP next year, triggering the rules in 2022, three years early.

This should be fine – after all, the whole point of including that trigger was to ensure the Chinese banks could be brought into the fold early if that was feasible. But it now seems the FSB may have got its sums wrong; market participants don’t believe the Chinese market will be deep enough to handle the demand, and the banks will have to look abroad – they have only managed to place $90 billion of qualifying bonds in the domestic market in the past seven years, compared with $400 billion overseas, leaving them with potentially up to $800 billion to place before the end of 2022, although estimates put the number closer to $400 billion–$500 billion, meaning issuance of up to $100 billion a year to comply.

Throwing the bank deposit insurance scheme into the mix of qualifying TLAC is one possibility, and could drop the shortfall to a minimal $40 billion. That could be met without trouble by the domestic market – and this looks like the most likely outcome. But the FSB would have done better to have avoided the uncertainty in the first place – either putting in place a fixed implementation period (perhaps ramping up to the full level) without the trigger, or compelling Chinese banks to operate on a level playing field with regard to TLAC requirements from the start. The major Chinese banks will gain little in terms of a grace period, and may stand to lose from the uncertainty the trigger rule has brought.

STAT OF THE WEEK

JP Morgan’s systemic risk score, as determined by the Federal Reserve’s Method 2 framework, was 731.51 at end-September, up from 728.17 in the previous quarter. This makes the bank eligible for a 4% global systemically important bank capital add-on, which will apply if its score remains above 730 at end-December. JP Morgan is subject to a 3.5% surcharge today

QUOTE OF THE WEEK

“I think we are at the beginning of a new ice age in the markets. We are seeing structural deleveraging; we are seeing the end of quantitative easing; we are seeing the rise of populism and a complete shift in how things are. The one thing I can say with conviction is that there will be more defaults. It is not just Nasdaq. It will happen elsewhere” – Roland Chai, group risk officer at HKEx