RBS Shares Fall as Bank Fails Stress Test

The Prudential Regulation Authority announced that three banks – RBS, Barclays, and Standard Chartered – need further capital measures to be adequately capitalised

Derya Guzel 30 November, 2016 | 4:42PM
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The Bank of England on November 30 released the results of its stress test of the U.K. banking system for 2016, which was conducted under harsher conditions than the 2014-15 stress test. Under these measures, the Prudential Regulation Authority announced that three banks – Royal Bank of Scotland (RBS), Barclays (BARC), and Standard Chartered (STAN) – need further capital measures to be adequately capitalised.

However, we believe only Royal Bank of Scotland might need to undertake additional capital-strengthening measures, which could include further Tier 1 debt issuance as well as the rapid sale of Williams & Glyn.

Standard Chartered already addressed the issues earlier this year with Tier 1 debt issuances, and Barclays has announced a plan to sell its shareholding in Barclays Africa as well as Tier 1 debt issuance. The test results showed that HSBC (HSBA), Lloyds Banking Group (LLOY), Nationwide Building Society, and Santander UK had sufficient capital levels under the severe stress testing. We do not plan to change our fair value estimates or moat ratings for the U.K. banks.

These results did not come as surprise to us following European Banking Authority stress test results, which were published in July. Back then, the U.K. banking system appeared weak, with Royal Bank of Scotland and Barclays demonstrated the weakest capital position of peers.

While Barclays did not reach the common equity Tier 1 systematic reference point before Tier 1 debt issuance, the PRA didn’t require it to submit a revised capital plan, as the bank announced its plan, which includes selling the majority of its shareholding in Barclays Africa as well as Tier 1 debt issuance of £1.1 billion, to further strengthen its capital.

While Standard Chartered sufficiently met hurdle rates and systemic reference points, it didn’t meet the minimum level of Tier 1 capital. However, as the bank has taken the right steps to address the issues, including Tier 1 issuance during the year, the PRA is happy for the bank to not submit a revised capital plan.

RBS Fails Stress Test

Under the current stress test, RBS went in with a 2015 common equity Tier 1 ratio of 15.5% and a Tier 1 leverage ratio of 5.6%. Its minimum stressed ratio for common equity Tier 1 stood at 5.5%, while its leverage ratio was at 2.7%. Both the common equity Tier 1 ratio and the leverage ratio came below their hurdle rates and systematic reference points.

During the year to date, RBS has reduced its risk-weighted assets at its noncore capital resolution unit by 21%, or £10.4 billion, to £38.6 billion, as part of the ongoing rundown. Management seems to be on track with the £35 billion target for RWAs for the unit by year-end. RBS plans to reach RWA of £15 billion-20 billion by year-end 2017 via further rundown and sale of other noncore loan portfolios.

While we believe measures taken by management so far have addressed some of the issues that resurfaced with today’s results, RBS might be required to take further and immediate action to improve confidence in its capital position following the stress test.

The information contained within is for educational and informational purposes ONLY. It is not intended nor should it be considered an invitation or inducement to buy or sell a security or securities noted within nor should it be viewed as a communication intended to persuade or incite you to buy or sell security or securities noted within. Any commentary provided is the opinion of the author and should not be considered a personalised recommendation. The information contained within should not be a person's sole basis for making an investment decision. Please contact your financial professional before making an investment decision.

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Securities Mentioned in Article

Security NamePriceChange (%)Morningstar
Rating
Barclays PLC157.74 GBX3.29Rating
HSBC Holdings PLC501.00 GBX2.09Rating
NatWest Group PLC217.00 GBX3.19Rating
Standard Chartered PLC602.00 GBX2.63Rating

About Author

Derya Guzel  is an Equity Analyst for Morningstar