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Leverage, svalutazioni e
requisiti patrimoniali*
Emilio Barucci
Politecnico di Milano
28 Gennaio 2009
*Parte del materiale qui presentato è tratto da contributi di diversi autori
che compariranno in ‘‘Oltre lo shock: dal caos alla stabilità dei mercati
finanziari’’, Marzo 2009, a cura di Emilio Barucci e Marcello Messori.
Plan of the presentation
1. An interpretation of the crisis
Mispricing and inefficient allocation of risk
Securitization of bank assets
High leverage
Capital requirements and risk
2. Quantitative methods problems
3. Perspectives
4. Conclusions
1. An interpretation of the financial
crisis
Many causes behind the crisis (weak
regulation, monetary policy), but:
1. Mispricing and inefficient allocation of risk
2. Securitization of bank assets
3. High leverage of commercial banks,
investment banks, hedge funds
4. Capital requirements are not effective to
capture risk (both Basel I and Basel II).
1.1Mispricing and inefficient
allocation of credit risk
Securitization didn’t work:
Moral hazard and adverse selection
Pooling and tranching allowed to build ‘‘safe’’ assets
Fictitious market created by rating agencies:
institutional investors (AAA constraint) and banks
(spread, rating and regulatory arbitrage, small
margins of traditional actviity) ―>bubble
Too simple rating models
Free lunch in the economy,no systemic risk
Risk remained inside financial intermediaries (banks,
hedge funds, investment banks, SIV): 50% of ABS
1.2 Securitization of bank assets
Disintermediation of commercial banks:
interest rate margin shrank during
the last ten years―>proprietary
trading, short term funds, derivatives,
repo funding, bonds, risk derivatives
Assets on both side of the balance
High ROE comes form non traditional
actvities and leverage
Growth of commerical bank balance and de-intermediation
Totale attivo banche del campione (€ miliardi)
Crediti su totale Attivo (scala sx)
Tasso di crescita medio
Depositi su totale Passivo (scala sx)
30%
55%
25%
50%
20%
45%
15.000
15%
40%
10.000
10%
35%
5%
30%
0%
25%
-5%
20%
20.000
5.000
0
2000 2001 2002 2003 2004 2005 2006 2007
Securities sull'attivo
19
97
19
98
19
99
20
00
20
01
20
02
20
03
20
04
20
05
20
06
20
07
25.000
Fair value of derivatives, interbanks exposure, assets funding
Strumenti derivati a fair value
positivo (€ mln)
Incidenza sul totale attivo
Controvalore (€ mld)
Controvalore (€ mld)
% esposiz. Interbancaria netta
su tot. Attivo
% finanz. da strumenti di
negoziazione* su tot. Passivo
3.000
14%
1.000
4,5%
4.000
2.500
12%
800
4,0%
3.500
3.000
10%
600
3,5%
2.500
8%
400
3,0%
2.000
1.500
500
6%
200
2,5%
1.000
500
0
4%
0
2,0%
0
2.000
1.500
1.000
2004
2005 2006
2007
2004 2005 2006 2007
20%
18%
16%
14%
12%
10%
8%
6%
4%
2%
2004
2005
2006
2007
1.3 High leverage
Two mechanisms:
1. Constant leverage: positive correlation between
debt and balance size ―> buy assets when the
market goes up
2. VaR targeting: leverage ratio itself is procyclical
Asset backed funding, short term, unofficial leverage
The mechanisms have worked also during the crisis:
sell assets when the market goes down
Profitability of commerical banks and leverage
Leva banche EU
Leva banche US
Leva inv.banks
Margine d'interesse su attivo
ROA
ROE
Banche EU
Banche US
30%
1.6%
18%
35
35
25%
1.4%
16%
30
14%
25
25
12%
20
20
0.6%
10%
15
15
5%
0.4%
8%
10
10
0%
1.2%
30
20%
2007
2006
2005
2004
2003
2002
2001
2007
2006
2005
2004
2003
2002
2001
2000
1999
0.8%
2000
1.0%
15%
10%
0
10
20
30
40
50
Investment banks: growth of balance sheet and leverage
70%
60%
50%
40%
30%
20%
10%
0%
-10%
-20%
-30%
-10%
0%
10%
20%
30%
-40%
40%
Growth of Repo and balance sheet
70%
60%
50%
40%
30%
20%
10%
0%
-10%
-20%
-30%
-10%
0%
10%
20%
30%
-40%
40%
1.4 Capital requirements are not
effective to capture risk
Regulation ineffective at two levels:
1. Investment banks were regulated weakley
2. US Commerical banks according to Basel I
but with a leverage constraint
3. EU Banks Basel I and tehn Basel II
4. Hedge funds: no regulation
5. SIV and Conduits unregulated
―>High leverage, correlation return and
leverage, negative correlation between
safe capital and losses
Relation between ROE and Leverage
ROE
Leverage
Combinazione ROE-Leverage
Combinazione ROE-Leverage post crisi
25%
30
28
20%
26
60%
40%
24
15%
10%
22
20%
20
0%
18
16
5%
14
12
0%
10
2001 2002 2003 2004 2005 2006 2007
15
-20%
-40%
-60%
-80%
20
25
30
35
40
Losses(/balance sheet) and safe capital
3,5%
3,0%
CITI
UBS
WF
2,5%
2,0%
HSBC
1,5%
CS
CA SG
DB
DEX
0,0%
10%
JPM
FOR
1,0%
0,5%
BOFA
20%
RBS
BAR BNP
30%
ING
HBOS
LLO
CMZ
40%
UC
50%
SAN
60%
ISP MPS
70%
80%
90%
2. Quantitative methods problems
1. Intrinsic limits of the Basel II approach
(connection of capital requirements to risk)
2. Limits of VaR to capture credit risk
3. Endogeneity in crisis periods
4. Liquidity risk
5. Systemic risk
6. Mark to model
7. Role of risk management inside trading
and sale unit
8. Remuneration.
3. Perspectives:
1. Methodology: more sophisticated and more
robust, supervision on regulatory effects,
towards proprietary models
2. Organization: models aiming at reducing
costs did not work, more integration of risk
units,
3. Regulation: Basel II approach should be
reinforced with a cap on leverage and
strong antitrust action
4. Markets: no limit on financial engineering,
rating agency regulation, limit over the
counter.
4. Conclusions: where do we stand?
The financial crisis is not ended
Suspension of market rules (short selling, fair
value, IAS) are dangerous in the long run
More concentration
State intervention is opaque
Bank of International Settlements revisions of
Basel II are in the right direction, still
lacking a clear route on risk management
Organization of banks is going to experience
transformations (no separation by law)
Regulation of markets is still lacking.