Leverage Kills (Picture)

VaR-to-equity ratios

Posted by jck on April 17th, 2009 at 3:24 pm    11 Comments

11 Responses to “ Leverage Kills (Picture) ”

  • # 1 sam redfeld Says:

    Do you have a problem with verbalization ?

  • # 2 john walker Says:

    What is the source of the data in this chart ??

  • # 3 jck Says:

    Sources: Bankscope; Bloomberg.
    US investment banks: Goldman Sachs, Lehman Brothers and Morgan Stanley
    US commercial banks: Bank of America, Citigroup and JPMorgan
    Continental European banks: BNP Paribas, Deutsche Bank, Société Générale and UBS
    UK banks: Barclays, Royal Bank of Scotland and HSBC

  • # 4 john walker Says:

    jck, thanks for your reply. Your chart is copies from the BIS CGFS paper 34, april 2009? It is then is very misleading, since as noted in the report VAR/equity is not a measure of leverge. In the same report, a chart of true leverage (assets/equity) shows that EU commercial banks have literally double the leverage of US banks. In short: “their” problem (excessive leverage) is far worse than “our” problem.

  • # 5 -jck Says:

    john walker:
    The standard measure of leverage ( ratio of total assets on balance sheet to equity) is very misleading for european banks because of different accounting rules for derivatives, once adjusted there is no material difference with U.S. banks.
    The graph above represents a risk-adjusted measures of leverage, that’s far from perfect but the difference between investment banks on the one hand and “banks” on the other is significant and it’s no accident that the IBs are either dead, taken over or have changed status to plain vanilla banks.

  • # 6 john walker Says:

    jck, Thx again for your reply.

    You wrote re EU banks,
    “once adjusted there is no material difference with U.S. banks”.

    Source, please ?

    If you believe that the leverage of DB (53:1), UBS (47:1) is comparable to BoA (11:1), you may be correct… but you can’t just proclaim “no material difference” and expect to be believed. There are disadvantage to blogging anonymously. ;-)

    I would really enjoy reading an explanation (yours or any you can cite).

    Please ??

  • # 7 -jck Says:

    Some hints in the report:

    “Balance sheet leverage under the International Financial Reporting Standards (IFRS) will typically be higher than under US generally accepted accounting principles (GAAP) for the largest dealer banks.”
    All the banks mentioned in #4 are large dealer banks.

    “…a greater degree of netting is permitted under US GAAP than IFRS for OTC derivatives and repurchase transactions.”

    You cannot compare the raw leverage of US and European banks, that is, comparing DB at 53:1 and BoA at 11:1 is an apple and orange comparison. Once adjustment is made, there is no material difference. Don’t believe it? Fine.

  • # 8 john walker Says:

    jck, Thanks again for taking the time to reply

    Obviously, I don’t believe it, in part because many economists who have looked at the EU banking system (e.g. Setser) don’t make that argument, and because an anonymous blogger is not a credible authority.

    However, I certainly /would/ believe it (and you would have imvho an interesting and very widely-quoted article) if you could present a credible argument.

  • # 9 -jck Says:

    It’s not a question of argument, it’s a question of knowing or not knowing the prevailing accounting standards in various parts of the world and their impact on assets valuation.

    I will post a graph from a major european bank that shows that its assets are cut by over 50%, simply by switching from IFRS to US-GAAP, this means that the leverage ratio is also cut by more than half.

  • # 10 Joe Hill Says:

    Why the hell would it matter whether or not he is an anonymous blogger? If what he puts forward is true, then why does it matter whose mouth it comes out of? Why read his blog daily if you don’t trust him?

  • # 11 gaius marius Says:

    it matters, jh, only if you aren’t in a position to evaluate the argument for veracity yourself. less about trust than being able to follow the point, imho. often frustrating for the uninitiated, to be sure. :)

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