Daily Forex Brief London: Wednesday 30th May 2012

Stay away in May

Assets prices were not unlike a volcano yesterday – all quiet on top, but a bubbling cauldron of fire and friction underneath. Although most now accept that the end is nigh for Greece in terms of continuing participation in the eurozone, events in Spain are moving so incredibly quickly that the centre of global systemic risk has now shifted indelibly to Madrid. Yesterday's news that retail sales in Spain collapsed by 16% in real terms in the year to April confirmed that this is another European economy in freefall. Almost everywhere you look in southern Europe the news is disturbing. Unsurprisingly, confidence in the single currency continues to ebb away; the euro dropped to a new 2yr low of 1.2457 overnight. In the month of May alone, the euro has fallen by almost 6%. Once more it is the dollar and the yen that are winning the forex popularity contest, while G4 bonds continue to set new record lows in yield. Gold is still really struggling (see below for a more detailed discussion) – it fell to USD 1,545 overnight. Oil prices are still plunging, providing further evidence that global demand has waned markedly in the current quarter. Brent crude fell below USD 107 last night, a fall of almost USD 20 in less than two months. That old investment adage 'sell in May and go away' has once again been remarkably prescient.

Daily Forex Brief London: Tuesday 29th May 2012

Rajoy scuppers Bankia bailout optimism

At yesterday's hastily convened press conference Spanish Prime Minister Rajoy poured some cold water over weekend reports of a EUR 19bn bailout for Bankia, claiming that no decision had yet been taken. Rajoy further contributed to the climate of fear and uncertainty by asserting that Spanish banks did not need recuing (a claim which he surely will regret in due course), while arguing that Spain's debt sustainability problem needed to be resolved. He also argued that the EFSF and ERM ought to be able to recapitalise European banks directly, rather than needing to go through national governments. Unfortunately, Rajoy's latest missive only conflagrated existing paranoia regarding Spain's increasingly desperate financial predicament (see below). The Pandora's Box that is the dodgy loans on the balance sheets of Spanish banks is now spilling forth into full view, and it is every bit as bad as many of us suspected.

Daily Forex Brief London: Monday 28th May 2012

Glimmers of hope

The weekend polls in Greece have shown the pro-bailout parties gaining ground, with two showing that they could receive enough of the votes to form a viable coalition. This has given the euro a modest lift in Asia trade, allowing a break above the 1.26 level, up from the 1.2496 year low carved out last week. Still, it's another three weeks until we will have the election results, so the road ahead remains fairly daunting for the single currency. We also have the Irish referendum on Thursday of this week on the European Fiscal Treaty. Meanwhile, as the Spanish government moves to inject fresh capital into Bankia, there are also moves to greatly enhance the deposit guarantee scheme protection offered to savers in European banks. These modestly encouraging developments, together with the fact that last week was the worst of the year for the single currency, increase the risk of some short-covering rallies this week, but there can be little arguing that underlying sentiment remains decidedly fragile.

UK banks improve stability and see assets at record levels

The UK is the leading centre for international banking and home to several of the largest global banks. Its banking sector assets were up 3% in 2011 to a record £8,119bn according to TheCityUK report Banking 2012. Although profitability has declined about 10% during the year, banks in the UK have made significant progress in repairing balance sheets, improving capital and funding and are in a better position than other large European countries on a variety of measures.

Banks have, according to the report, reduced reliance on wholesale markets to fund lending, with loan-to-deposit ratios declining 4% on average in 2011 to 102%. Deposits in the UK have grown faster than loans since 2009, narrowing the funding gap to 8% of lending in 2011 from 24% at the outset of the credit crisis. UK banks have also reduced leverage ratios, to just over 20 times in 2011 from over 40 times three years earlier, with leverage set to decline further as banks transition to higher capital requirements under Basel III. However, credit availability and lending remains constrained, in common with other developed countries.

The UK banking sector’s direct exposure to vulnerable sovereign debt in Greece, Portugal, Italy, Spain and Ireland totalled around £15bn at the end of Q3-2011. UK banks have larger exposures to the private sectors in these countries of over £190bn. This was considerably less than, for example, France and Germany, which had overall exposures of over £400bn and £300bn respectively, and more than four times the UK’s direct holdings of vulnerable sovereign debt.

The UK had the second largest banking sector assets in the world, after the US, in 2011. Foreign banks held 48% of the total, a higher proportion than in most other large countries. The UK is the leadingcentre for international banking, and home to several of the largest global banks. Its 19% share of cross-border bank lending was the highest in the world. The 251 foreign banks physically located in the UK is more than in any other centre. The UK is also one of the most important centres for private and investment banking and Islamic banking.

Figures for the global industry show that assets of the largest 1,000 banks grew by 6.4% in 2010/11 to a record $101.6 trillion, with the highest growth registered in China. TheCityUK forecasts a further 6% increase in industry assets during 2011/12. Banks from emerging market countries have on the whole been less affected by the economic slowdown, and are expected to drive growth in the coming years. In Europe, the increase in sovereign risk in some countries and concerns about government debt levels have spilled over into the banking system, raising the cost of borrowing for many banks and depressing their market capitalisation. According to the report, banks around the world have over $3.5 trillion in wholesale funds which will need to be refinanced in 2012 and 2013. This is made more difficult in some European countries by an increase in funding costs and sharp rise in bank debt yields resulting from an increase in sovereign risk.

Investment banking

Global investment banking revenue totalled $70.3bn in 2011, down slightly on the previous year. Fee revenue of $42.1bn generated during the first half of 2011 represented the strongest start to a year in four years. However, business activity then slowed. The $15.7bn fee revenue generated in Q1-2012 was down a fifth on the same period in 2011.

Business activity from mergers and acquisitions advisory work has fallen considerably since the start of the economic slowdown, and accounted for 27% of revenue in 2011. Equity underwriting, fixed income underwriting and syndicated loans business each accounted for around a third of the remaining business. The US was the source of 54% of business, its highest share in five years. Europe’s share declined during this period to a quarter from close to 40%, partly a result of sovereign risk concerns in some countries. Asia accounted for around a fifth of the total, nearly double its share four years earlier.

Companies in the UK were the source of $3.3bn of global revenue in 2011, down 15% on the 2010 figure. This represented around 4.6% of global fee revenue making it the fourth largest market behind the US, China and Canada. Although the UK was the source of around a fifth of European investment banking fee revenue, around a half of European investment banking activity was conducted through London. The majority of investment banks are either headquartered or have a major office there. The largest international banks in the UK each employ several thousand people.

Companies in the financial sector have consistently been the source of the highest share of investment banks’ business over the past decade, both globally and in the UK. Their 22% global share was ahead of energy and natural resources (20%) and industrials (15%), which both saw a 6% increase in revenue to $14.1bn and $10.8bn respectively. Other fee generating industries included consumer and retails (10%) and technology and healthcare (7% each).

Contribution to the economy

The UK banking sector is a crucial and integral part of its economy. Net exports of UK banks totalled£25bn in 2010 helping to offset the trade in goods deficit. The UK banking industry contributed £56bnto the economy in 2010, equivalent to 4.8% of GDP, or over half of the 8.9% generated by the financial sector as a whole. Foreign direct investment into the UK banking sector more than doubled over the past decade to reach £63.3bn in 2010. During this period outward direct investment grew more than five-fold to £83.4bn.

Banks located in the UK provide employment for 454,200 people. London accounts for 31% of this, followed by North West 10%, Yorkshire 10%, Scotland 9%, the South West 8% and the South East 8%. Other cities outside of London with large employment in banking included Edinburgh (15,100), Leeds (14,500) and Birmingham (12,500).

By Chris Cummings, Chief Executive of TheCityUK

www.thecityuk.com

Daily Forex Brief London: Friday 25th May 2012

The euro bails out

Markets approach the end of what has been a pretty difficult week. The single currency has made news lows for the year (vs. the USD) and markets have no more faith in the ability of eurozone leaders to quell speculation around a Greek exit as anti-bailout parties retain their lead in the Greek election opinion polls. We've also seen the capitulation of the single currency, something which we talked about earlier this month, where the euro has been the weakest currency in a period of dollar strength, rather than the more traditional high-beta currencies, such as the Aussie. The price action on the single currency this week means that we run the risk of short-covering activity into the weekend. Also, the Swiss franc is worth keeping a small eye on after yesterday's volatility (at least compared to recent activity), which was mostly on the back of - so far - denied rumours of further measures to quell currency strength.