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Wednesday, June 19, 2024

Unpredictable risks

By Tue Nhien

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With interest rates soaring, corporate clients are coping with a higher financial cost, a decline in consumption of goods and services and other hardships that may force them to scale down their operations or even go bust. Banks as intermediaries between depositors and borrowers are grappling with unpredictable risks.

Risks from banks

The collapse of Silicon Valley Bank (SVB) in the U.S., followed by Signature Bank and Silvergate Bank, has shaken American financial markets. The financial systems of many other countries will certainly feel its impact. The cost of insurance against bank insolvency has skyrocketed in other economies, along with a sharp decline in stock prices.

Since UBS, Switzerland’s biggest bank, bought its beleaguered rival Credit Suisse, Germany’s leading bank Deutsche Bank has been struggling with share selloffs by its investors. Other banks, such as Commerzbank AG in Germany, Banco de Sabadell in Spain and Societe Generale SA in France, have also seen their stock prices diving. This suggests the Credit Suisse deal, brokered by the Swiss government, has not yet reassured investors.

Let’s get back to the fall of SVB. Most analyses have pointed out that this bank used short-term capital to make long-term investments. Short-term deposits whose interest rates are sensitive to market movements were mostly invested in long-dated and fixed-rate bonds while interest rates were at ultra-low levels in two preceding years.

Meanwhile, the bank lacked solutions to effectively get insured against such risks. In addition, concentration on a single customer segment is another noteworthy point about the three U.S. banks that have just collapsed.

As a bank specializing in serving technology startups, SVB had expanded dramatically in parallel with the miraculous growth of this group of companies in more than two years when economies worldwide were grappling with the Covid-19 pandemic and cheap money everywhere. With loans making up only 35% of its total assets and the rest invested in fixed-rate government bonds and debt securities guaranteed by home mortgages, SVB’s safety ratio looked attractive to any investor.

However, as interest rates rose and the U.S. Federal Reserve (Fed) hiked federal funds rates over a span of more than one year, the bonds SVB had previously invested in dropped in price and technology companies that were SVB’s clients faced woes. These were the reasons why SVB customers withdrew money from the bank in droves.

Thus, with interest rates soaring and corporate clients coping with a higher financial cost, a decline in consumption of goods and services, and other hardships that may have forced them to scale down their operations or even go bust, banks as intermediaries between depositors and borrowers face unpredictable risks.

Not only is there bad debt pressure which will likely emerge again when the ability to repay loans of customers is weak given high interest rates, but there are also risks with loan terms and interest rates.

Should Vietnamese banks worry?

The 2022 financial statements of the 27 banks listed on the stock markets showed that their stock investments account for less than 13% of their total assets on average. Even the highest proportion was less than 23% at TPBank, followed by MBBank with 22%. It was 15% or below at 23 banks and 10% or less at nine.

The portfolio held by banks mainly consists of government bonds, bonds of other banks and corporate bonds.

Given the strong growth of the corporate bond market in the past, such debt made up a large proportion of the securities portfolio of many lenders. At TPBank and MBBank, for example, the ratio was 29% in late 2022.

Bonds issued by both companies and banks almost always have a floating coupon rate. Though they were fixed at the date of issue, the coupon rates of those bonds were later adjusted depending on market movements, such changes in base interest rates at banks and the average of interest rates quoted by state-run banks plus a certain margin.

In contrast, government bonds always have a fixed coupon rate, so those bonds held by banks would decline in price when interest rates go up again. However, as mentioned above, the main source of income for Vietnamese banks is still lending operations, with interest rates adjusted according to market forces, whereas investing in bonds is just a solution for capital optimization. Holding government bonds is also a way to help banks improve their reserve ratios. Therefore, most banks today are not too focused and dependent on this activity.

Take state-run banks for example. They are always the most active investors on the government bond market and are holding the biggest volume of government bonds. However, the volume of government bonds held by these banks, including those available for sale and those to be kept until maturity, makes up a modest portion of their total assets (4% at Vietcombank, 4.4% at VietinBank and 5.3% at BIDV).

It should be noted that state-run banks often obtain a major amount of capital from the State Treasury with an adequate balance, plus sizable amounts of money in checking accounts of state-owned companies. Therefore, they minimize the term risk when investing in long-term bonds.

Government bonds account for only 6% of the total assets of listed banks, whereas held-to-maturity bonds make up less than 2%, said VinaCapital Chief Economist Michael Kokalari. This is lower than the typical ratio of 5-10% at U.S. banks and far below the level at SVB, where nearly 45% of its total assets were bonds to be kept on the balance sheet until maturity.

In addition, the rate risk with government bonds is, of course, present, but this risk is apparently becoming less significant as interest rates go down again. Specifically, in the fourth quarter of 2022, the coupon rate for 10-year government bonds soared to 4.8%, more than double the 2.1% level recorded at the beginning of that year. As a result, many banks saw their portfolio of government bonds, which they poured money into when interest rates fell, decrease in value.

However, since early this year, the coupon rates of government bonds have dipped rapidly. Now it is 3.6-4.1% for the 10-year bond and 4.2%, the highest, for the 30-year bond. The State Bank of Vietnam’s interest rate cuts in mid-March indicated that interest rates could tumble further in the not-too-distant future.

Last but not least, Vietnamese banks have a much more diverse customer base for both capital inflow and outflow, helping reduce the risk of exclusivity. Also, the sources of medium- and long-term capital for Vietnamese banks have improved markedly in recent years, thanks to their successful sales of valuable papers and long-term bonds to facilitate their long-term business development, easing their dependence on long-term deposits from individual customers.

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