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constructive (99.96)

European financials are overleveraged



April 14, 2012 – Comments (16) | RELATED TICKERS: SAN , C , BSBR

Almost 1100 people have green thumbed Banco Santander (STD) on CAPS. It has a 4 star rating along with LYG, BBVA, NBG, IRE, etc.  European financials have been hammered the past few years - does it make sense that they will outperform going forward?

I don't think so.  Large European financials are much more leveraged than large US financials. The problem is too big to earn their way out (even if the European sovereign debt market cooperates).  Instead, they will be forced to raise equity, possibly at unattractive prices.  Leverage reduction will be driven by Basel III, and one would hope by survival instinct. See Dexia, MF Global, etc.

By my calculations, large European banks have an average tangible leverage ratio of 30 vs 15 for large US banks, and large European insurers have an average tangible leverage ratio of 25 vs 10 for large US insurers.

Santander's tangible leverage ratio of 22 makes it one of the less leveraged European banks, but more leveraged than any US bank.  If you want international banking exposure, I prefer Citigroup (14) or Banco Santander Brasil (8).  I'd definitely stay away from Prudential UK (104), BBVA (45) and Deutsche Bank (58).  Over the last year European banks have underperformed, and I think that trend will continue until Basel III is fully implemented along with massive capital raises.

16 Comments – Post Your Own

#1) On April 14, 2012 at 7:14 PM, constructive (99.96) wrote:

Correction, BBVA, NBG, and IRE just have 3 stars on CAPS.  Tons of green thumbs however.

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#2) On April 14, 2012 at 11:06 PM, portefeuille (98.92) wrote:

Deutsche Bank No. 1 in Europe as Leverage Hits Valuation


There are currently 800/1300/5500 BBVA/DB/STD shares in my fund with break-even of around $11.43/54.14/6.55.

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#3) On April 15, 2012 at 1:18 AM, portefeuille (98.92) wrote:

#2 ... and 160/2800/1400 C/BKIR:LN/NBG shares with break-even of around 38.05/0.91/2.92 USD/EUR/USD. And shares of a few other European and U.S. bank companies that were not explicitely mentioned in the post ...

I think it is not such a good idea to be "underweight" shares of large European banks.

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#4) On April 15, 2012 at 1:23 AM, portefeuille (98.92) wrote:

my favourite part of leverage.

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#5) On April 15, 2012 at 1:29 AM, portefeuille (98.92) wrote:

#4 I think we should start a leverage team to take the money from the bad guys. I suggest starting with zzlangerhans, anchak and me. Are you some kind of "specialist"?


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#6) On April 15, 2012 at 1:31 AM, portefeuille (98.92) wrote:

... and you should reactivate megaeurope.

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#7) On April 15, 2012 at 1:34 AM, portefeuille (98.92) wrote:



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#8) On April 15, 2012 at 1:56 AM, portefeuille (98.92) wrote:

German banks have large exposure to German government bonds and people do not appear to see them as all that risky currently. That certainly helps ...


(from here)

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#9) On April 15, 2012 at 12:53 PM, constructive (99.96) wrote:

#2, #8 good article and chart

#3 I would be buying European banks if they had higher equity levels.  But although they are cheap, I'm staying away until they raise significant capital.  PUK is the only one mentioned in this post which I'm red thumbing.

#4 agreed :)

#6 Yes I should, but the continent is not giving me much help right now. 

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#10) On April 16, 2012 at 2:05 AM, Valyooo (33.84) wrote:

I don't really see why lower leverage is what you want unless you are expecting an immediate disaster.  If you don't want leverage, don't look at financials...fractional reserve banking is designed so banks use as much leverage as the government wants them to.

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#11) On April 16, 2012 at 8:23 AM, Schmacko (91.18) wrote:

Banco Santandar Brasil (BSBR) has chronically underperformed against every other Brasilian bank since its IPO.  It should reap some of the benfefit of all the financing of various projects thats going to be going on in Brasil with the World Cup and Olympics going there... but I wouldn't reccommend them over any other bank in Brazil. 

Canadian Banks are very well run and offer good international exposure.

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#12) On April 16, 2012 at 8:44 AM, kickbishopbrenna (51.50) wrote:

Banco Santander emerged relatively unscathed from the bloodbath by taking a large payment from RBS when it was trying to buy out a portion of their bank and a Belgian (Depfa?) bank just before the crash occurred. They sat on the cash as the UK Northern Rock debacle unfolded, and have now re-entered in "better" times. I think the strategic decision to sell their portion to ABN Amro if I recall correctly, which then was taken over by RBS was key to their damage limitation.They re-entered the UK at a good time with all banks many have an underlying positive story, from the high-risk, high potential (like NBG..seriously, much of thier funds are from Finland!) to the more predicatable (relatively) C, BAC, or JPM..I've been sniffing round these, adding them to my potential buys, and will buy soon, deciding which will be influenced by Foolish advice!


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#13) On April 16, 2012 at 9:09 AM, portefeuille (98.92) wrote:

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#14) On April 16, 2012 at 12:16 PM, constructive (99.96) wrote:

#10, higher leverage increases the risk of financial loss, loss of counterparty funding, and regulatory risk (being forced to raised capital to comply with Basel III).  Lower leverage reduces those risks - but if leverage is too low, it's a drag on performance.  Keep in mind the difference between political opinions and investing.

#11, BSBR has only been public 2.5 years.  Yes the stock price has underperformed BBD, ITUB, BDORY, etc.  But that is primarily because of lower (more attractive) valuation than their competitors, not lower business performance.

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#15) On April 16, 2012 at 10:21 PM, Valyooo (33.84) wrote:

Keep in mind the difference between political opinions and investing.

I know what I said sounded political, but that was not my intention.  I guess it makes sense to look for lower leveraged banks now, when capital must be raised.  But in general, i'm not sure how much I care about leverage as much as I care about the makeup of the portfolio and management.  20:1 leverage and 50:1 leverage, either one of them is gonna pop in a bubble, but the 50:1 will probably do better during the boom, you know what I mean?  If I wanted lower leveraged companies I would look at the blue chips.

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#16) On February 16, 2014 at 6:31 PM, constructive (99.96) wrote:

Since I wrote this European financials are up about 20% while the broad market is up about 30%.

Although ratios have improved, I think they are still overleveraged and the implementation of Basel III will keep them from outperforming over the next 5 years.

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