Barclays PLC (NYSE:BCS) (LON:BARC) estimates the too-big-to-fail subsidy that accrues to systemically important financial institutions at $2 billion to $6 billion per year.
Brian Monteleone and the team at Barclays PLC (NYSE:BCS) (LON:BARC) in their recent credit research report, feel some of the estimates pegging the funding advantage at a high $83 billion are flawed. This astronomical sum is the equivalent of the entire annual profits of these major financial institutions.
In their report, the analysts dwelled deep by estimating TBTF subsidies based on the risk profiles of the moneycenter banks besides adopting a more sophisticated view of which liabilities would benefit from a TBTF effect.
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Analysts Peg Scope Of TBTF At $1.2 Trillion
To understand the subsidy amount, the analysts have pegged the scope of TBTF at $1.2 trillion in market-priced, credit sensitive unsecured debt. The analysts have excluded repo and other secured liabilities, thereby pruning the size of the scope.
Barclays’ analysts also feel neither insured nor uninsured deposits benefit from a TBTF subsidy.
Brian Monteleone and team have adopted a business risk-adjusted spread measure to estimate the subsidy at $2 billion to $6 billion.
The analysts argue that the subsidy should be pegged at the lower level, in view of banks increasing capital ratios and falling systemic risks in Europe. Besides, the analysts feel there is limited scope in the market for re-emergence of structural leverage that existed during pre-crisis.
Free Insurance Policy
The analysts quoted a conversation between Senator Elizabeth Warren and the FED chairman Ben Bernanke. The Senator indicated a Bloomberg report highlighting the big banks get $83 billion, essentially a free insurance policy.
Armed with the confidence of ‘too-big-to-fail’ tag, the large banks are able to borrow more cheaply, as investors are less concerned with the potential cost of failure.
Barclays: All Some Liabilities Are Not Affected By TBTF Perceptions
Barclays’ analysts feel some liabilities are unaffected by TBTF perceptions. The analysts highlight the flawed approach of multiplying 80 bp rating-implied pricing discount with the entire $10 trillion liability structure of the top 10 U.S. banks to arrive at $83 billion estimate.
Instead, they feel one should consider only those types of liabilities that could logically benefit from a TBTF effect.
For this purpose, the analysts have split the large banks’ liabilities into five general categories such as deposits, repo agreements, trading liabilities, wholesale debt and other. The following graph depicts the above categorization:
The analysts note only those liabilities that bear a market rate of interest meaningfully based on the borrower’s credit quality would lend themselves to a TBTF subsidy.
For instance, the analysts feel repo funding and trading liabilities do not really benefit from TBTF perceptions. However, they feel wholesale debt (as excluded by securitization debt, FHLB advances and other secured borrowings) would be benefited from TBTF perceptions.
The analysts also feel the views on deposits are unclear, though they are unlikely to be cheaper because of TBTF. With $4.4 trillion size, deposits represent the largest single liability on the banks’ aggregate balance sheets, representing roughly half of the universal banks’ assets. It represents roughly 70 percent for Wells Fargo & Co (NYSE:WFC) and about 10 percent for Goldman Sachs Group Inc (NYSE:GS) and Morgan Stanley (NYSE:MS).
According to an earlier Goldman Sachs report, the bonds of the largest banks provide investors with far greater liquidity, and that this added liquidity can in itself explain the funding advantage that the largest banks have at times experienced. The report also highlighted serious undermining the notion that government support drives a TBTF funding advantage.