RBS fails toughest-ever BoE stress test, boosts capital plan

RBS fails BoE stress test , says it would make deeper cost cuts and sell additional unwanted assets in a plan accepted by the Prudential Regulation Authority


RBS remains susceptible to financial and economic risks, says Prudential Regulation Authority. Photo: Bloomberg
RBS remains susceptible to financial and economic risks, says Prudential Regulation Authority. Photo: Bloomberg

London: Royal Bank of Scotland Group Plc was forced to bolster its capital plan after failing multiple hurdles in the Bank of England’s toughest-ever stress test, undermining chief executive officer Ross McEwan’s progress at the majority taxpayer-owned lender.

Some “capital inadequacies” were revealed at two other banks, Barclays Plc and Standard Chartered Plc, though neither was required to submit a revised capital plan, the BoE’s Prudential Regulation Authority said on Wednesday. RBS said it would make deeper cost cuts and sell additional unwanted assets in a plan accepted by the PRA, according to a separate statement.

The test also covered HSBC Holdings Plc, Lloyds Banking Group Plc, Banco Santander SA’s British arm and Nationwide Building Society, which all passed the annual health check. The hurdle rate required all the banks to retain capital equivalent to 4.5% of their assets weighted by risk, plus Pillar 2A — a requirement that varies depending on the specific risks for each bank — in the stressed scenario. Some of the banks were also asked to meet a so-called systemic reference point, a higher threshold which reflects their significance to the global financial system.

“RBS remains susceptible to financial and economic risks,” the PRA said in the statement. Stressed projections for misconduct costs, surging impairments from corporate and retail lending and a range of other risks and expenses tied to the majority taxpayer-owned lender’s plan to shrink its operations contributed to its weak performance in the test.

RBS declined as much as 3.6% in London trading and was down 2.2% at 192.6 pence at 8:39am.

RBS’s results mean the lender will probably unveil deeper restructuring plans alongside 2016 earnings, “dashing any hopes for excess capital returns,” analysts at Jefferies International Ltd. led by Joseph Dickerson wrote in a note to clients.

Sam Woods, deputy governor of the BoE, said the regulator had taken a “stressed view” of the sale of the bank’s Williams & Glyn unit and misconduct fines, while loan impairments climbed in the test because of a projected slow down in the UK.

“They have fallen short of the hurdles and they have some more work to do,” Woods said. The bank’s new capital plan is “fully credible, the PRA board looked at that carefully and reached that conclusion as well. We’ll hold them to delivery.”

RBS’s revised plan includes further cuts to costs and risk-weighted assets, the sale of personal and commercial loan portfolios, while additional actions may be required, the company said.

Overall, the BoE said the stress test showed that the UK banking system is “capitalized to support the real economy in a severe, broad and synchronized stress scenario.” The central bank said the average common equity Tier 1 capital ratio for lenders involved in the test had already increased from 12.6% at the end of last year to 13.5% in the third-quarter as banks took actions to improve their resilience to financial shocks.

The BoE’s Financial Policy Committee judged that no system-wide macroprudential action on bank capital was needed in response to the test. The FPC maintained the UK countercyclical capital buffer at zero percent and expects to keep it at that level until at least June 2017 “absent any material change in the outlook.”

Severe test

Regulators began stress tests to restore confidence in the financial system after the bailouts that resulted from the crisis. Authorities impose a “severe but plausible” scenario to ensure banks can withstand strain and keep credit flowing. This year’s test featured a sharp economic slide in Hong Kong and China, a 1.9% contraction in the global economy, and exchange-rate volatility as emerging-market currencies depreciate against the US dollar. It also assumed a 31% crash in British house prices during the five-year period, while UK commercial real estate sank 42%.

The adverse scenario was drawn up in March and doesn’t model the impact of the Brexit negotiations or a withdrawal from the European Union. The combination of stresses in the test lead to £44 billion ($55 billion) of losses for the nation’s biggest lenders over the first two years, while the banks cut expected dividends by about £18.4 billion to handle the envisaged crisis over the same period.

The BoE test went beyond economic forecasts, asking lenders to provide stressed projections of their fines and settlements, causing particular trouble for RBS because the 73% taxpayer-owned lender faces a potential multi-billion dollar settlement with US authorities over the pre-crisis sale of mortgage-backed securities. RBS modelled its own performance based on the test and approached the BoE with a revised capital plan before it was asked to provide one by the central bank.

The Edinburgh-based lender missed targets for common equity Tier 1 capital, a key measure of financial strength, and a leverage measure before the conversion of some debt to equity was factored in. The PRA said it will monitor the Edinburgh-based lender’s progress in implementing the plan.

Barclays failed to meet its systemic reference point without triggering additional Tier 1 securities, bonds that convert to equity in times of financial stress, meaning it failed the higher threshold of the BOE test. The London-based lender wasn’t asked to resubmit its capital plan because it’s already taking actions, including plans to sell its Africa business. Bloomberg

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