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ECB says banks have time to fill capital gap from stress scenario

Euro zone banks will get time to come up with a plan to meet capital shortfalls highlighted by shock scenarios in upcoming stress tests, the European Central Bank said on Monday.

"The time frame within which the strengthening of capital buffers must take place will depend on the respective outcome," the ECB said in a statement.

(Read more: ECB to simplify European bad loan definition)

Euro sign outside the European Central Bank, Frankfurt, Germany
Image Source | Image Source | Getty Images
Euro sign outside the European Central Bank, Frankfurt, Germany

"A shortfall relative to the baseline scenario will require that capital be raised in the nearer term, whereas a shortfall arising from the adverse scenario may only require capital to be raised over a more extended period, on the basis of an agreed capital plan".

The ECB is still working on the methodology for its review of euro zone top lenders' balance sheets, which it plans to publish by the end of March. The review will precede the stress tests that check how banks hold up under shock scenarios.

ECB Vice President Vitor Constancio said preparations were well underway: "Banks are front-loading preparations for the comprehensive assessment, and are strengthening their balance sheets, which is a welcome development."

Over the past couple of months, the ECB has collected vast streams of data from the 128 banks that are taking part in the exercise, and a deadline for some lenders to deliver extensive detail on their trading books and risk models is approaching.

National supervisors have also identified particularly risky portfolios they would like included in the in-depth review, which the ECB now needs to review and approve.

In Germany, for example, shipping is likely to be looked at closely. The country was a global leader in ship lending before the financial crisis struck and the global economic downturn crimped trade flows, wiping out the profits that shippers need to pay off their loans.

Over the next couple of months, ECB inspectors will make sure the lenders have set aside sufficient capital for possible loan losses, check for data accuracy and run on-site reviews - the most complex part of the assessment.

(Read more: Euro zone money supply dries up, pressuring Draghi)

Banks and investors are keen to find out how the ECB will go about this stage, which portfolios and assets will be looked at, and how the ECB defines certain key criteria, such as when a loan has gone bad.

Morgan Stanley sees Italy, the Netherlands and Austria in focus when it comes to non-performing loans, arguing that in Italy these continue to grow with no slowdown seen.

Italian lenders have been hard hitby write downs on soured loans as the country's deepest recession in 60 years takes its toll on households and businesses.

Federico Ghizzoni, head of Italy's top lender UniCredit told Reuters TV last month the AQR would reveal that some smaller Italian lenders need additional capital, and that it could also trigger a new consolidation wave among them.

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