By Joseph Neu
Many large European banks are breathing easier now thanks to the European Central Bank’s Long Term Refinancing Operation (LTRO) announced at the end of February. EUR530bn in loan support was a strong tonic and provided enough liquidity to keep the European financial system afloat—at least for the time being. With one part of the euro crisis—European banking system insolvency—stabilized, the second part concerning sovereigns is in a holding pattern but seeing improvement. Greece was able to renegotiate a more substantial restructuring of its debt and Italy and Spain face improving borrowing conditions. The proverbial can has been kicked down the road.
Should treasurers then kick their crisis responses down the road as well? Not if they are smart. Even if the immediate worst-case scenarios are no longer remotely likely, that does not mean that the groundwork laid
over the last several months should be abandoned. It should rather be re-channeled into global reassessment processes that builds on responses to the US crisis and any other crises past or anticipated. Bank counterparties are where to keep the strongest focus.
COUNTER PARTY RISK
It cannot be repeated enough how the US and European crises have underscored the importance of counterparty risk management. And, again, this applies to all financial and commercial counterparties.
But keeping the focus on financials, the breathing space given European banks, creates the risk, as it did for US institutions earlier, that they will not as aggressively take the steps that are needed to de-leverage their balance sheets and adapt to the new rules of the game being imposed by markets and regulators in response to crisis.
Deutche Bank’s Capital Markets Strategist Tom Joyce reiterated this concern in a presentation to the NeuGroup’s Global Cash and Banking Group in a presentation last month.
Taking this concern further, among the chief takeaways at the NeuGroup’s recent Treasurers’ Group of Thirty meeting, also last month, is how a combination of varying regulatory forces and return to normalcy interpretations are going create an increasingly uneven playing field for bank relation- ships. Supported by input from HSBC at the meeting, we can be sure that there are going to be banks that will be up-front about the eventual impacts and do business accordingly and those that will wait and seek share in the interim. Much of this will depend on the regulatory jurisdiction of the bank in question (keep in mind that the proposed guidelines for US banks’ implementation of Basel III are still not out), as well as the strategy of bank management.
The banks that wait will eventually pay a price and so will their customers.
LOOKING AHEAD
Accordingly, corporate treasurers need to become more sophisticated and forward-looking in evaluating banks as acceptable counterparties and manage their core bank group with an eye to the regulatory impacts on bank offerings, both access and pricing, and the timing of these impacts. The window three to five years from now is being highlighted as a critical one, as this is when most fluctuations will hit, as the regulatory impacts will impact a wider swathe of banks and interest rates and perhaps inflation will start showing upward trends.
In response, simple prudence suggests to ladder your revolver maturities and plan to amend and extend to avoid too much refinancing in this thee- to five-year window and do the same with debt issuance and the timing of swap rollovers.
But what if you also had reason to be confident that the banks in your revolver had the credit standing and margin required to be there at renewal or when you need to rollover your swap?
Of course, the lesson of taking a longer view than just getting the absolute best price today, because it ends up costing you down the road is not new. Nor is the rising sophistication of corporate treasurers when it comes to measuring the riskiness of bank counterparties. The reason is that most have not let crisis fatigue get the best of their response measures. And this is why smart treasurers are rolling euro crisis responses into more comprehensive efforts rather than putting them on the back burner. Revolutionizing bank relationship management with a multivariate view on counterparty risk is just the most obvious example. There is a lot more to do.