Bank of England adds new bar to stress tests

The Bank of England's newest threshold for lenders is called the systemic reference point, which takes into account the potential global repercussions if the lender collapses. Those that fail this measure or their individual hurdle rates will need to
The Bank of England's newest threshold for lenders is called the systemic reference point, which takes into account the potential global repercussions if the lender collapses. Those that fail this measure or their individual hurdle rates will need to boost their capital ratios.PHOTO: REUTERS

Some of the seven assessed major lenders may not pass the stricter threshold

LONDON • The Bank of England (BOE) added a new, higher bar to its third round of public stress tests. Some of the United Kingdom's biggest banks will scrape through; others may not clear it.

The seven major British lenders tested will probably beat the lowest measures of strength required to pass the annual BOE health check when it is released tomorrow, Autonomous Research LLP said in a note this month.

Royal Bank of Scotland Group and Barclays risk a "soft fail" of tougher thresholds set for lenders deemed to be integral to the global banking system, they said. HSBC Holdings' and Standard Chartered's results may be rattled by a Chinese recession scenario.

Each bank now must top its individual hurdle rate and a new threshold, called the systemic reference point (SRP), that takes into account the potential global repercussions if the lender collapses.

Firms that fall short of either measure will have to boost their capital ratios, though the BOE will force them to take "less intensive" action if they only miss the SRP.

AN ENVIRONMENT FULL OF RISK

With bank investing these days, you need to be more cognisant of the economy, the rate environment and, crucially, of the regulator.

MR BARRINGTON PITT MILLER, a research analyst at Janus Capital Group in Denver.

"With bank investing these days, you need to be more cognisant of the economy, the rate environment and, crucially, of the regulator", especially if one bank does much worse than its peers in a stress test, said research analyst Barrington Pitt Miller at Janus Capital Group in Denver.

The BOE's test will also include Lloyds Banking Group, Banco Santander's British arm and Nationwide Building Society. The hurdle rate requires all the banks to retain capital equivalent to 4.5 per cent of their assets weighted by risk, plus Pillar 2A - a requirement that varies depending on the specific risks for each bank.

Mr Simon Adamson, an analyst at CreditSights in London, said he expects none of the lenders to fail the hurdle rate, moving investors' attention to the SRP. Those lenders that fall short of that may be given more time to raise capital, or be allowed to issue additional Tier 1 bonds rather than equity.

Regulators began stress tests to restore confidence in the financial system after the bailouts that resulted from the financial crisis eight years ago. The authorities impose a "severe but plausible" scenario to ensure banks can withstand strain and keep credit flowing.

This year, the test features a sharp slide in Hong Kong and China, a 1.9 per cent contraction in the global economy and exchange-rate volatility as emerging-market currencies depreciate against the greenback.

It also assumes a 31 per cent crash in British house prices during the five-year period, while UK commercial real estate dives 42 per cent.

BLOOMBERG

A version of this article appeared in the print edition of The Straits Times on November 29, 2016, with the headline 'Bank of England adds new bar to stress tests'. Print Edition | Subscribe