Asia banks face dollar funding squeeze after US downgrade

Asia banks face dollar funding squeeze after US downgrade

Hong Kong/Singapore: Asia’s banks are seen facing a bump-up in dollar-funding costs and potentially slower credit growth after Standard & Poor’s (S&P) historic US debt rating downgrade, strengthening China’s case to push the yuan as a global alternative to the dollar.

Ratings agency S&P cut the US long-term rating by one notch to AA+ from AAA on Friday, sparking a sell off in global stock markets already roiling from concerns about the euro zone’s debt crisis. .

Banks in Asia have about 15-20% of their loan book in US dollars, according to an estimate by Ismael Pili, head of Asian bank research at Macquarie Capital. Analysts said their demand and costs have been climbing.

“We have seen rising demand for US dollar loans by corporates throughout the region," said Christine Kuo, Singapore-based team leader for banking at Moody’s Investor Service.

“Banks have been raising US dollar funding to meet their customer demand. If there is tightening or there is great volatility in the US dollar market, that’s where we think the impact will come in. Some of the banks will need to pay higher for US dollar funding or they may have to delay their capital market issuance should the market become too volatile," she added.

Moody’s estimates Singapore’s DBS and OCBC have loan-to-deposit ratios in US dollar of 140-160%. That means they do not have sufficient US dollar deposits for loans but borrow from the wholesale market to finance corporate needs.

The funding squeeze will again intensify calls for replacing the dollar as the reserve currency.

“This is probably one of the triggers that will get people looking at the RMB," said Frances Cheung, a strategist at Credit Agricole in Hong Kong, referring to the Chinese currency yuan, which is also known as the renminbi (RMB).

“With this downgrade, it’ll probably have many people wondering if the US dollar should be the international reserve currency, which could drive use of the yuan," he said.

Modest US Debt Exposure

But given their small holdings of US debt, the downgrade won’t translate into an immediate earnings hit for the Asian banks and insurers or forced them to raise capital.

Among banks with significant Asian operations, HSBC plc has the highest exposure to US government debt, at $68.3 billion, or 2.6% of its total assets, Deutsche Bank wrote in a research note.

The Australian central bank, its major banks and pension funds together hold A$11.2 billion ($11.7 billion) of US treasuries, analysts estimate, which is tiny compared to at least A$500 billion in assets held by each of the major banks.

AIA Group Ltd, Asia’s No. 3 insurer, has no exposure to US Treasuries, and seeks to match its liabilities in the continent with Asian assets, chief executive Mark Tucker said last week.

Chinese insurers such as China Life, the world’s most valuable insurer, and No. 2 Ping An also follow largely the same strategy, with most of their assets under management kept inside China, partly to meet government restrictions.

“The Chinese insurers will be fine," said Patricia Cheng, a Hong Kong-based analyst with CLSA. “Their overseas investment is tiny, and it doesn’t make sense for them to invest overseas fixed income because of yuan appreciation which would eat away any returns in RMB terms," she added.

Unlike the global financial crisis of 2008, the current situation is unlikely to increase banks’ bad-debt levels, analysts say.

If anything, slower economic growth in the United States will translate into slower growth of several Asian economies. That would result in slower credit growth, eventually impacting bank earnings in Asia.

“That will also make the banks cautious in their loan provisioning, which has been coming down over the past several years," one bank analyst at an European brokerage said.

Also, under Basel II banking regulations, any securities held by banks at or above AA- are still given a zero risk weighting in calculation of their capital ratios, said Kristine Li, a credit analyst at RBS in Singapore.

There could be some other long-term challenges from the downgrade.

Asian banks own US dollar-denominated bonds issued by banks and other financial institutions and any downgrades of these debts could impact the banks’ earnings in the long-term, Deutsche Bank said in the report.