New accounting rules could force Europe’s top banks to recognise an extra €61.5bn in loan losses, new analysis shows, as a major UK pensions group has warned that bank accounting is not fit for purpose.
Analysts at Barclays have calculated how 27 of Europe’s biggest banks would fare under new global rules governing how much lenders should set aside for potential bad loans.
In a report published on Tuesday, they found that the rules would trigger an increase of about 34 per cent in loan loss provisions across the group, as well as lower bank valuations and more volatile earnings.
The report came as the UK’s Local Authority Pension Fund Forum reignited a long-running row over the new rules on financial instruments, dubbed IFRS 9, describing them as “fundamentally flawed”.
The LAPFF published an opinion from George Bompas QC, claiming that the new regime would still not give a “true and fair” view of banks’ financial position. It wants the EU to refuse to endorse the standards.
The rules on financial instruments are a culmination of a seven-year project to make company accounts paint a more accurate picture. They came in response to concerns about how banks were dealing with impairments during the financial crisis.
Banks were unable to book accounting losses until they were incurred, even though they could see the losses coming. At times the incurred loss rule meant banks overstated profits upfront and did not make prudent provisions against expected losses, particularly in areas such as loans secured against property.
Under IFRS 9, which is due to come into force in 2019, banks will move from an “incurred loss” to an “expected loss” model, where they are forced to set aside money for the expected losses on all loans, and lifetime losses on riskier ones.
In its research, Barclays said the new requirement to recognise expected losses on all loans at initiation would add about €13.4bn to the banks’ loan loss provisions. Another about €48bn would be added because of additional provisions for lifetime losses on bad loans.
The hit to capital comes as banks are already facing higher capital demands from a string of new rules.
Spain’s Caixa, Italy’s UBI and the UK’s Standard Chartered are the most affected by the change in the IFRS 9 rules. Caixa’s common equity tier one ratio would fall by about 1.7 per cent as a result of the higher loan losses triggered by the rules, Barclays said, while Standard Chartered’s and UBI’s would fall by about 3 per cent.
Banks that would see the slightest impact include Credit Suisse, UBS, Virgin Money and Nordea.
The rules will have a broader impact than the immediate financial hit. “Using ‘expected loss’ may lead banks to overestimate losses during severe downturns, increasing earnings volatility,” the note said. “This may lead to higher CET1 (capital) ratios over time.”
While the rules do not come into force until 2018, Barclays said some banks with excess capital might “soften the one-off impact” by taking higher provisions in 2016 and 2017.