International banking groups are in the process of some radical restructuring. As new regulations designed to boost capital adequacy are implemented worldwide, banks are making fundamental changes to business models to protect profitability while accommodating the changes.
Among the most demanding regulations is Basel III, which is in the process of being implemented across Europe with different milestones scheduled to trigger further structural changes until 2019.
The regulatory set was a response to the financial crisis of 2008 which saw banking groups collapse into insolvency and is designed to reduce market liquidity risk, increase capital adequacy and improve stress testing.
However, the unforeseen circumstances of this very prescriptive set of regulations is that banks are now ceasing to offer some essential services to clients and are increasing fees for some of the other ‘risky’ services they offer.
Looking across all operating areas, the effect of Basel III and regulations of its ilk is clear to see as banks restructure operations.
A poll of 131 banks, asset managers and insurers by consultants Accenture in July 2015 found that 56% will spend more than US $200 million this year on global restructuring to comply with reform requirements. Of those firms acknowledging a spend, around a third of those polled will spend in excess of US $500 million.
Steve Culp, senior global managing director of Accenture Finance and Risk Services, said corporate restructuring will continue for many months yet as banks respond to the demands of Basel III and Dodd Frank Section 165/6.
He explained: “The financial services landscape will continue to be rewritten given the cumulative impact of global structural reform, especially for internationally active banks and insurers.
“Those with a clear and connected global implementation plan in place will be the best positioned to get the most from their investments.”
Arguably one of the most interesting statistics from the Accenture research is that only one per cent of firms surveyed said they had no restructuring plan in place to address the new regulations.
Among the world’s global banking groups that are undergoing a transformation is Swiss bank UBS, which announced last year that it would restructure assets with a new holding company and a less complex legal structure.
In a statement released at the time, the bank said: “The establishment of a holding company is a significant step in a series of changes to UBS’s legal structure that are intended to substantially improve its resolvability in response to evolving industry-wide ‘too-big-to-fail’ requirements.”
While UBS said the restructuring would not affect its operating model, there have been numerous other examples of banks rethinking their areas of activity as a result of more stringent capital regulations.
David Clark, chairman of the Wholesale Markets Brokers Association, said that because Basel III has been in development for over five years; with timetables having been extended and details changed as the industry has responded to various consultations, the structural changes have been gradual.
He explains: “Changes to banks’ corporate structures have evolved steadily. There are four main areas of change: capital availability and cost and leverage ratios; new liquidity arrangements; the introduction of Resolution and Recovery plans and, in some financial centres, the use of Basel III to create ‘ring fences’ around retail and investment banking businesses.”
Specific examples of how Basel III has eroded banking services are relatively easy to find, however. Activities such as market-making, clearing and trading have all been implicated.
In derivatives trading, the marketplace has a significant number of banks that have ceased clearing activities because the capital costs under Basel III are so significant that it makes no sense to continue offering these services.
At the time of writing, BNY Mellon, Nomura, Royal Bank of Scotland and State Street had all withdrawn some OTC derivatives clearing operations.
WMBA’s Clark says it is important to remember how Basel III has impacted products and balance sheet requirements in order to truly understand why banks have taken the decisions that they have.
He says: “Overly-sophisticated securitised products have been shunned as having been at the heart of the crisis, and banks are aligning their costs of capital and liquidity with the Basel metrics.
“Simple traded products, such as FX and vanilla derivatives are subject to higher capital costs but are easy to create, market and hedge. Final decisions on capital calibration will be crucially important in defining how banks’ product suites change.”