It’s now official. The biggest US banks will face a leverage-ratio that’s significantly higher than non-US competitors, a requirement that is nearly certain to increase the price of products they provide to corporates but may also bring some benefits.
It was anticipated that the Federal Reserve, FDIC and the Office of the Comptroller of the Currency would raise the big banks’ leverage-ratio requirement, and the final approval was stamped April 8. They lifted the ratio to 5 percent for bank holding companies (BHCs) with more than $700 billion in consolidated total assets or more than $10 trillion under custody. That’s up from the 3 percent required under Basel III which global banks based outside the US will face.
The BHCs impacted are Bank of America, BNY Mellon, Citigroup, Goldman Sachs, J.P. Morgan Chase, Morgan Stanley, State Street and Wells Fargo, and their FDIC-insured bank subsidiaries will have to maintain a leverage ratio of 6 percent. To comply with the new requirements, the eight banking companies will have until January 1, 2018, to raise as much as $68 billion in additional capital.
The new requirement is almost certain to have an impact on multinational corporates, since those banks comprise the biggest US derivative dealers and providers of credit lines.
“Treasurers appreciate the provisioning of liquidity via the credit lines, and they often do ancillary services like derivatives with those lenders,” said Luke Zubrod, director of risk and regulatory advisory at Chatham Financial.
Mr. Zubrod added that whenever a bank must hold more capital or higher quality capital against assets on its balance sheet, either in aggregate or individually, to maintain its return on equity it must increase the pricing on derivatives, loans and other products it provides. The financial services industry has mostly opposed the higher ratio for competitive reasons.
“This rule puts American financial institutions at a clear disadvantage against overseas competitors,” Tim Pawlenty, CEO of the Financial Services Roundtable, said in statement. “It is disappointing this proposal wasn’t further examined by economic experts and will likely result in tighter access to loans for businesses across the country.”
Practically speaking, “higher capital requirements mean higher cost of capital for banks, which means higher cost of funding for corporates borrowing from banks,” said Jiro Okochi, CEO of Reval. “This coupled with potentially higher rates down the road may catch many treasurers with much higher interest expense ….”
Mr. Zubrod notes, however, that there may also be benefits. For one, the banks may be perceived as safer by corporate customers given today’s increasingly frequent market volatility. In addition, it could lower those banks’ costs to obtain unsecured funding.
The uncleared swaps that corporates favor are one product likely to see a cost increase, especially if they have little or no collateral associated with them, said Mr. Zubrod. US regulators are anticipated to make progress this year on new regulations requiring banks to establish volume thresholds over which their corporate customers must collateralize swap transactions, but until those thresholds are met no collateral would be necessary. European regulators are not anticipated to impose any margin requirement on trades done with corporates.
Mr. Zubrod said pricing would most likely be higher on those uncollateralized transactions, but it’s unlikely banks would require transactions still below the threshold to be collateralized.
“The preference of the end user may change as a result of the higher pricing they’re seeing absent collateral requirements, but as long as the end user is willing to pay the higher prices I don’t think they would have trouble doing uncollateralized swaps,” Mr. Zubrod said.