RBS stress test failure sends shares spiralling

Added 30th November 2016

Shares in RBS had fallen 5% top 187.2p by mid-morning on Wednesday after the bank emerged as the biggest failure in the Bank of England’s latest stress test scenario.

RBS stress test failure sends shares spiralling

In what remains the BoE’s most rigorous stress test to date, RBS was found to be the most susceptible to the macroeconomic stress from the apocalyptic scenarios dreamed up by the central bank.

Under these fantastically harsh scenarios, which included a 1.9% reduction in the global economy and a 31% decline in UK house prices over a five-year test period, RBS failed to meet several hurdles. The bank’s capital position edged below its Common Equity Tier 1 ratio requirement rate of 6.6% and slightly under its Tier 1 leverage hurdle rate of 3%.

While Standard Chartered and Barclays also missed the mark in certain areas, neither was forced to submit a revised capital plan to the Prudential Regulation Authority as RBS was. 

The British bank, which is still 73% owned by the state, has continued to feel the pressure of overhanging restructuring and litigation costs throughout the year, including the tortuous spin-off of Williams & Glyn, forcing it to revise its future cost-cutting objectives.

All of this has served to “weaken its hand,” said Hargreaves Lansdown senior analyst Laith Khalaf, and ensure RBS remains “the weak link in the UK banking chain, almost a decade after the financial crisis came close to wiping the bank out.”

“However, RBS is in no immediate danger, barring a repeat of something akin to the financial crisis, and it’s important to bear in mind that the 2016 stress test uses an extremely severe economic scenario to challenge the resilience of the UK banks to financial shocks,” he said.

“Indeed the point of these tests is to identify inadequacies which require remedial action, and to that end RBS has submitted a revised capital plan which has been accepted by the regulator.

“The good news from the stress test is the regulator believes that as a whole the UK banking system is in a good position to weather a particularly nasty economic storm,” Khalaf concluded.

RationalFX and Xendpay CEO and co-founder Paresh Davdra agreed that there were obvious positive takeaways for UK banks in light of the BoE’s stress test, given the uncertainties of a post-Brexit UK.

“The bank’s exercise has proven timely as governor Mark Carney stresses the importance of an orderly Brexit to the UK’s financial stability, which seems increasingly in peril as voices from the EU call for UK to receive a less beneficial deal in leaving the union.

“Whilst it remains unknown whether or not a clear strategy for Brexit will emerge soon, or even if a ‘hard’ Brexit is nothing other than inevitable at this point, the BoE’s stress tests have revealed that many of the UK’s most recognisable high street brands would likely be able to withstand the worst case scenarios,” he added.  

TwentyFour Asset Management portfolio manager Gary Kirk agreed that the BoE’s tests did “illustrate the improvement in the balance sheet strength of the UK banking sector” but was doubtful this would impact price action. 

“We see the results as being reasonably benign for the sector and would not expect to see too much in the way of price action based on these outcomes (with the obvious exception of the upcoming DOJ settlement for RBS, the size of which is unknown at the moment),” he said.

“The subordinated bank sector is always likely to be associated with a degree of volatility but in our opinion the high returns from these bonds and robust nature of balance sheets continue to offer attractive compensation over the medium term.” 

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