Funding: French banks get that shrinking feeling
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| When I think about the current environment and the potential outcomes, I don’t think it could have a significant impact on our balance sheet.” - Frédéric Oudéa |
Frédéric Oudéa, chairman and chief executive of Société Générale, presented the bank’s answer to worried equity market investors whose selling has recently destabilized its stock price at the Barclays Capital Global Financial Services conference in New York on Tuesday 13 September - just the day before ratings agency Moody's downgraded the bank to AA3.
He pointed out that the Société Générale’s net banking book sovereign exposure to Ireland Portugal, Greece, Italy and Spain combined was just €4.3 billion as at September 9, 2011, which amounts to less than 1% of the group’s balance sheet.
Market valuations imply that exposure would be subject to a hit of €400 million. Even if it was twice as big, it’s no big deal. Holdings of Greek government bonds amount to just €900 million and the bank provisioned €395 million in the second quarter, leading to an average mark down to par of 35% on gross residual exposure.
Oudéa asked his audience: “Do you think that is an issue for the P&L of Société Générale? Do you think that is an issue for the capital of Société Générale? Personally I don’t think it is. When I think about the current environment and the potential outcomes, I don’t think it could have a significant impact on our balance sheet.”
More troubling for the bank has been loss of access to dollar funding in recent weeks, which has hit various activities inside the commercial and investment bank, including securities businesses, commodities and legacy assets. The bank lost $12 billion of funding from the start of July to the end of August. Oudéa highlights one response to this. The bank has speeded up dispositions of legacy bad assets that were funded in the short-term markets. Through the third quarter, Société Générale will reduce predominantly through sales and also from amortizations, €4.3 billion of these legacy exposures without, it says, hurting its P&L.
Oudéa highlights other benefits of grappling with these bad assets, including release of regulatory capital from the dismantling of CDOs of MBS, returning the bank’s exposure to the underlying collateral of the mortgage bonds themselves. He says: “Often the MBS are better rated and more liquid than the CDOs and the dismantling of them will allow us to free up €1.3 billion of Basle III capital.”
He is defiant over how the bank has coped with the disappearance of funding from money market funds. “Remember that throughout this period euro funding remained abundant. How did we manage the reduction of US dollar funding? First, the disposal of legacy assets left us less to fund. In addition, we used other sources of dollar funding including $6 billion of repos beyond six months maturity. We used euro resources including euro-dollar swaps in the interbank market. Throughout, we maintained $34 billion of cash at the Fed and we managed our way through this without even touching our liquidity buffer pool of €105 billion of unencumbered assets.”
Oudéa points out that the bank has already completed its 2011 long-term funding programme. In 2012, in addition to continuing funding needs, the bank will have €20 billion of term debt maturing. How will it cope, if the senior unsecured debt markets remain hard to access? “First, we will further deleverage,” says Oudéa, “and will continue legacy asset disposals at a high pace.”
But the bank will also have to choose certain business to withdraw from and is likely to pull back from provision of dollar real estate finance, aircraft finance, shipping finance, leveraged finance and asset-based finance. “In the US, we see plenty of banks with large volumes of cash that they don’t know what to do with,” Oudéa says. The bank may reduce up to €10 billion of loans with a loss of anywhere from €300 million to €500 million in revenue. “We are adapting to a new world, since the summer and that is not entirely comfortable,” says “Oudéa, “though I believe we start from a sound base”.
While the bank de-levers and scales back some businesses it will sell others, mainly in global investment management services and specialist financial services, seeking to free up a further €4 billion of capital, equivalent to 100bp of Basel III core tier one capital by 2013.
It’s just as well that the bank sees a way to boost its capital ratios through disposals and retained earnings. For now, given the discount to book at which its shares trade, the equity capital markets are closed to it anyway.
Speaking just two weeks after a former French finance minister shocked the markets with calls for compulsory recapitalization of European banks, Oudéa told his New York audience: “On the question of capital, I know many of you are thinking of a European version of Tarp. My view is that, under whatever scenario, we do not need that. But I will capture your feedback and pass that to representatives of the French government...because we have to listen to the markets.”
