Eurobanks Seen As Big Winners In ECB’s TLTRO Program

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As part of his commitment to do ‘whatever it takes’ to combat low inflation, European Central Bank president Mario Draghi announced yesterday that negative policy rates and a new TLTRO program (targeted long-term refinancing operation) that is meant to give banks reason and resources to extend loans, but could end up giving a boost to the financial sector without impacting the rest of the economy at all.

TLTROs may be unhealthy for the real economy: Jefferies

“There is a clear incentive for banks to take up their full allocation and benefit from a close to 3% carry yield in Italy and in Spain, with minimal penalty beyond a shorter duration of the program,” write Jefferies analysts Omar Fall, Joseph Dickerson, and Jean Farah. “As we have seen in the past, as unhealthy as this may be for the ‘real economy’, it has been a boon to risk assets and the sector.”

TLTRO has two phases. First, in September and December banks will be able to borrow up to 7% of their outstanding corporate loans (non-financial loans excluding mortgages) as of April 30 2014. Then between March 2015 and June 2016 banks will be able to borrow up to 3x the amount of new corporate lending since April 2014. The cost of the TLTRO will be 10bp above the ECB’s main financing operations (Fall, et al estimate about 25 bp) and the loans will mature in September 2018, but any institution that doesn’t meeting certain lending benchmarks will have to repay its TLTRO loans by September 2016 instead.

Banks don’t need to make new corporate loans to benefit from ECB policy

For a bank that isn’t particularly interested in extending new corporate loans (or at least not to the extent the ECB would like) this shorter duration doesn’t create a problem. Because the cost of the TLTROs is so low, they will still take the maximum amount and then deploy the capital as they see fit for two years. That’s not to say that the program won’t increase corporate lending, but it will benefit the banking sector regardless of whether it succeeds (and there is plenty of skepticism that it will).

Fall, Dickerson and Farah pick Buy-rated Credit Agricole SA (EPA:ACA) (OTCMKTS:CRARY) and Royal Bank of Scotland Group plc (ADR) (NYSE:RBS) (LON:RBS) (which has exposure to the program in Ireland) and Hold-rated Societe Generale SA (ADR) (OTCMKTS:SCGLY) (EPA:GLE) as the stocks best positioned to get a boost from TLTRO.

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