European banks face crisis due to rising cost

Spike in interest rates led to a sell-off in bonds, leaving banks exposed

FRANKFURT/ LONDON:

European bank shares tumbled on Friday in the wake of a dramatic sell-off in US lenders as concern spread that the sector will be vulnerable to the rising cost of money.

Europe’s STOXX banking index fell more than 4%, set for its biggest one-day slide since early June, with declines for most major lenders, including HSBC, down 4.5%, and Deutsche Bank, down 7.9%. Shares in Italy’s UniCredit and Intesa Sanpaolo also fell sharply.

The global rout in bank stocks was prompted by Silicon Valley Bank (SVB), a major banking partner for the US tech sector, which was forced to raise fresh capital after selling a package of bonds at a loss to meet depositor demands for cash.

“The market is treating this as a potential contagion risk,” said Antoine Bouvet, Senior Rates Strategist at ING in London.

“It makes sense to me that a remote probability of a US banking system-wide crisis should also come with a small probability of contagion to Europe,” he said.

Already bruised, the sector could face another bout of turmoil later on Friday if US employment data points to a further ratcheting up of interest rates. Shares in major US banks such as JPMorgan Chase & Co and Citigroup were set to fall again when Wall Street reopens.

Leverage problem

The crisis at SVB underscored the risks to banks from the end of easy money. Banks typically invest heavily in government bonds, in particular those of their home country. A spike in interest rates has led to a sell-off in bonds, leaving banks exposed to potential losses on the securities they hold.

John Cronin, an analyst at Goodbody, said investors were worried about the falling value of banks’ investments and how that could hit the capital underpinning their business, as well as savers switching banks for a better deal.

Offering higher deposits to attract customers could also eat into bank profits.

Global borrowing costs have risen at the fastest pace in decades over the last year as the Federal Reserve lifted US rates by 450 bpts from near zero, while the European Central Bank hiked the euro zone’s rate by 300 bps.

Published in The Express Tribune, March 11^th, 2023.

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