The author has been described by News Ltd as an "iconoclast", "Svengali", a pollie's "economist muse", and "pungently accurate". Fairfax says he is a "Renaissance man" and "one of Australia’s most respected analysts." Stephen Koukoulas concludes that he is "85% right", and "would make a great Opposition leader." Terry McCrann claims the author thinks "‘nuance’ is a trendy village in the south of France", but can be "scintillating" when he thinks "clearly". The ACTU reckons he’s "an enigma wrapped in a Bloomberg terminal, wrapped in some apparently well-honed abs."

Friday, June 11, 2010

Updated: ANZ's Asian loans "severely stressed"--major banks should focus on domestic growth

Oh boy, after over a year of canvassing the risks associated with the major banks’ offshore expansion strategies, I could say I told you so.

Today Banking Day reports that ANZ's recently acquired portfolio of Asian loans from RBS is "severely stressed". You don’t need to be a chess grandmaster to work out why RBS sold ANZ these loans in the first place. And the default rates look positively sub-prime (compare these arrears against the RBA-estimated circa 0.6 per cent non-performing loan rate across Australian residential mortgages):

"The ratio of non-performing loans across the RBS loan portfolio of US$3 billion is 8.5 per cent, the bank disclosed in presentation slides lodged with the Australian Securities Exchange under the name of the bank's chief risk officer for Asia, Nigel Denby. The ratio of non-performing loans for ANZ's other businesses in Asia was 1.6 per cent.

The bank said the ratio of collective provisions to risk-weighted assets on the RBS portfolio was 6.9 per cent, or more than fives time the ratio across the rest of ANZ's Asian business."

On a roadshow through the region, ANZ's Mike Smith has announced that he wants to become a "top four" foreign bank in China, Hong Kong, Taiwan and Korea. This is part of a strategy that was originally formulated by Charles Goode in the benign days prior to the GFC. Yet in a post-GFC world where the ‘utility’ characteristics of taxpayer-backed, t0o-big-to-fail banks are much more crisply appreciated, ANZ’s strategy looks inappropriate.

The crux of this problem is actually more complex than most understand. Australia’s too-big-to-fail banks have a well-known funding or ‘liability’ vulnerability—they rely on international capital markets for around 40 per cent of all their finance. By originating large volumes of risky Asian loans, the major banks are going to start establishing nontrivial ‘asset’ risks as well. That is to say, both sides of their balance-sheets could be called into question. And remember, these are balance-sheets that already suffer from inherent asset-liability mismatches—they are borrowing short and lending long, which is why they require taxpayer support during crises.

So with all of the above in mind, I have some straightforward questions:

*Given Australia's very strong growth prospects, why can't ANZ simply focus on being a ‘top four’ bank domestically, as they did for the last two decades?

*Does ANZ's expansion into Asia expose Australian taxpayers to new prudential risks?

*Is APRA (and the RBA) comfortable with the banking and prudential regulatory standards in China, Hong Kong, Taiwan and Korea? Are they the same as Australia's? (My guess is No, and No.)

*Can APRA and ANZ provide us with unconditional, iron-clad guarantees that a deep credit crisis in one of these Asian nations will not adversely impact ANZ's stability in Australia (or, put more precisely, can they guarantee that ANZ's Asian expansion strategy will not materially increase the probability of such a crisis affecting its local operations)?

*When is somebody going to respond to my repeated observation that if the single most important source of strength of Australia's major banks during the GFC--according to the RBA and others--was the absence of exposures to risky overseas market (ie, the US), why are they now desperately running offshore to internalise these hazards? After all, Asia arguably poses much greater rule of law, political and economic risks than the US.

As sure as I wearily rise at 2.30am every morning to go for a run, Asia is eventually going to turn ugly for our too-big-to-fail major banks. It might not happen this year or the next, but it will happen.