FDIC’s Hoenig notes potentially ‘profound’ impact of banks’ capital distributions

The Global Capital Index for year-end 2017 shows growth in tangible leverage ratio for G-SIBs; FDIC notes 2 changes in rules and practices last year that left the G-SIBs with an increase rather than a decrease.

The federal bank deposit insurer’s vice chairman harkens back to the financial crisis in a statement released Wednesday on the agency’s latest “global capital index” (GCI) reading, which shows big banks seeing a capital increase in 2017 – aided by two changes in rules and practices that effectively prevented a reported capital decline.

The semi-annual update on the GCI, released by the Federal Deposit Insurance Corp. (FDIC), shows the largest U.S. banks (global systemically important banks, or G-SIBs) reporting higher capital ratios at year-end 2017, but the banks’ international financial reporting standards-based (IFSR) tangible leverage ratio estimate – which grew from 6.62% last June to 6.92% in December – was bolstered by a 2017 change in clearinghouses’ settle-to-market (STM) rules plus banks’ earnings distributions to shareholders. Without the former, the agency said, the banks’ IFRS leverage ratio estimate would have declined 44 basis points to 6.48%. The largest G-SIBs reportedly also distributed 125% of earnings to shareholders through dividends and share buybacks for the full year 2017.

The FDIC says the STM rule change for certain centrally cleared derivatives transactions treats the exchange of variation margin as a settlement rather than collateral. As reflected in the banks’ accounting, this change results in the derecognition of gross balances of the netted derivative assets, liabilities and associated collateral disclosed in a firm’s financial statements. This, it says, is estimated to have reduced the reported off-balance sheet derivative exposure by approximately $845 billion for the U.S. G-SIBs from year-end 2016 to year-end 2017.

“The STM rule change allows banks to derecognize these assets and liabilities in their financial statements allowing capital to appear greater relative to assets when including off balance sheet risk, when no real increase in capital has occurred,” FDIC Vice Chairman Hoenig said in a statement. “The implications can eventually become profound especially as these banks ramp up capital distributions, as we saw in 2008 when the true capital position of the largest banks became painfully revealed.”

The adoption of STM “represents a significant easing in capital requirements,” the FDIC says, but U.S. G-SIBs “continue to benefit from their better capitalized and financially stronger position than their counterparts across the globe.”

It says U.S. G-SIBs continue to trade at a premium of 1.41 to book value, while their European and Canadian counterparts trade at a median discount to book of 0.89 and Asian counterparts are trading at 0.67.

Statement of FDIC Vice Chairman Hoenig on the Semi-Annual Update of the Global Capital Index

Global Capital Index and Other Data