Macro Wrap – European Banks Flash Warning Signs

by Enis March 1, 2013 7:48 am • Commentary

To give you a sense of the importance of the European banking crisis, let me throw out a few points.

  1. European bank balance sheets have assets that total around $40 trillion.  In contrast, American bank balance sheets total closer to $15 trillion.  If you thought the American banking crisis in 2008 was a mess…
  2. European capital ratios are about 50% on average of those of their American counterparts.  In other words, European banks have a little more than twice the assets of American banks, but are backed by a similar amount of capital.
  3. American banks have uniform deposit insurance.  European banks do not.

I added the last point to emphasize that a run on European banks is more likely in the long run.  Greece already experienced a massive bank run, but was saved by funds from the ECB. The contagion impact and threat to economic growth from a run in a larger European country is a serious tail risk.

Clearly, the ECB has been successful in instigating confidence at each turn of the crisis.  But the underlying problem has not gone away.  European banks have severely impaired balance sheets, and are substantially undercapitalized.  They are also massive.  So European bank stocks are worth watching as a barometer of the region’s systemic health.

Here’s the 2 year chart of SX7E, the European banking index:

SX7E 2 year daily chart, Courtesy of Bloomberg
SX7E 2 year daily chart, Courtesy of Bloomberg


The index has rolled over in the past month.  What caught my eye, though, is the massive volume of buying to start 2013.  There was only one previous instance of such heavy volume (I’ve circled both in red), during the sovereign debt crisis in Jul/Aug 2011, which was panic selling.  Amazingly, the start of 2013 began with panic buying, a rare phenomenon indeed.

Clearly, many who had avoided European banks for several years felt comfortable with the all clear signal given by European policymakers, and plowed into “cheap” European bank stocks as their bet for 2013.  Since the Italian election results though, that optimism has been squashed, and SX7E is now down on the year.

Given the enormity of the European banking problem, all eyes will be on ECB head Draghi over the next few months.  Only the ECB has the power to stem the tide.  So far, he’s used mainly words.  The markets might soon force him into action.

Markets overnight:

  • Asian markets were mixed, with Japan higher, but China lower.  Chinese Manufacturing PMI came in at 50.1 vs. expectations of 50.5.  
  • European PMIs came in close to expected, at 47.9 vs. 47.8 expected.  European stocks started selling off shortly after the open.  Euro Stoxx 50 now down 1.5%.
  • SPX futures down 0.4%, following Europe lower.
  • The dollar and Treasury bonds are stronger, with the Euro piercing the 1.30 level for the first time since early Jan.  The British pound hit its lowest level since July 2010 after a very weak PMI number, 47.9 vs. 51 expected.
  • Copper making a 3.5 month low overnight, down 2%, and front month WTI crude oil is now negative on the year, down 1.5% overnight.
  • Personal Income and Personal Spending at 8:30 am EST, and Construction spending and most importantly ISM Manufacturing at 10:00 am today