Page 31 - EBA 2013.2869 Risk Assesment Report final proof4

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R I S K A S S E S S M E N T O F T H E E U R O P E A N B A N K I N G S Y S T E M
29
5. Liabilities side
Subsequent to the last December 2012 re-
port, the funding conditions seem to have
improved with some consistent banks’ issu-
ance of unsecured debt, particularly in the
beginning of 2013, and market funding slowly
replacing early repayments of the two 3-year
refinancing operations (long-term refinanc-
ing operations (LTROs)), and thus decreasing
reliance on official sources of funding. There
is also some evidence of deposit inflows from
both retail and corporate customers, includ-
ing into banks in countries with financially
stressed sovereigns. At the same time, the
average cost of equity of banks in the EU has
decreased and there has been a compression
in bank equity prices when comparing core
and peripheral banks.
Despite improved funding conditions, the fi-
nancial markets remain in a fragile state and
may not reflect an enhancement in the fun-
damentals but are mainly due to an improved
market sentiment and perceived reduction in
the equity risk premium as a consequence
of decisive policy measures adopted since
the sovereign and bank funding crisis. These
policy measures and central banks’ engage-
ment in unconventional policies to support
macroeconomic stability and bank funding
have helped ease funding pressures. Never-
theless, fundamental fragilities and contin-
ued structural funding challenges remain,
in particular in countries having experienced
some sovereign stress.
Funding
Market funding conditions have been relative-
ly benign during the first semester of 2013.
Large banks, including financially stronger
banks domiciled in financially stressed sov-
ereigns, have been issuing unsecured debt,
particularly in the first quarter of the year.
Sovereign developments in March did not
lead to a lasting reversal of the benign trend
but only to some temporary deterioration.
Nevertheless, the absence of fundamental
improvements is demonstrated by the nega-
tive reaction of the financial markets during
May and June 2013 to suggestions of tighten-
ing liquidity by central banks.
Looking ahead, based on RAQ answers,
banks expect an increasing importance of
unsecured debt as a significant source of
funding, consequently paving the way for re-
ducing concerns regarding the levels of as-
set encumbrance, i.e. assets earmarked as
collateral for specific secured funding. Whilst
events related to Cyprus led to a temporary
deterioration of market funding sentiment in
March, they did not lead to a lasting reversal
of the benign trend started months earlier.
Nevertheless, persistent evidence of increas-
ing differences in funding conditions and
funding costs can be identified between banks
domiciled in financially strong sovereigns and
those domiciled in financially stressed sover-
eigns. In addition, several banks remain reli-
ant on central bank support and future with-
drawals of public funding sources are still a
challenge for many of them.
In parallel, there are indicators that a down-
sizing of banks’ balance sheets has started
and more severe deleveraging has been oc-
curring in financially stressed countries,
partly due to their ongoing macroeconomic
and financial adjustment programmes.
With regard to deposits, their importance for
bank funding has been steadily increasing.
While March events led to a heightened at-
tention on deposits, they have to date not had
a material impact on deposit flows. Be that as
it may, some behavioural changes could be
expected for deposits not covered by deposit
guarantee schemes, and heightened supervi-
sory attention is warranted.
Competition for deposits
Strong pressure for deleveraging emerged
in Europe during the final quarter of 2011 and
will continue throughout 2013. With a need for
de-risking and aligning the business models
to the market’s expectations, EU banks are
bringing their leverage to more conservative
levels and rethinking their dependence on
less stable funding sources, such as short-
term wholesale financing, which have also
become more expensive in the new market
environment. As part of the deleveraging
process, banks could strengthen their li-
quidity and funding positions by attracting
more deposits. In this respect, EU banks
have been able to attain their funding needs
not only via refinancing operations, but also
by reducing their overall balance sheet and
diminishing the need to attract new funding,
as well as through the strengthening of their