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What to Look Out for in European Banks

Friday, 16 Sep 2011 | 4:10 AM ET

With share prices down over the summer as fears of contagion spread, might now be the time to take off your hard hat, climb out from under your desk, and look again at European banks?

There has been renewed focus on European banks this week, with new regulations on the table, one of the most high-profile "rogue trader" cases of recent years and trouble across the euro zone.

Jon Peace, European Banks Analyst at Nomura, thinks that investors should hold their hand until there is further visibility.

"There's a real concern about two main risks," he told CNBC Friday.

"First, European solvency concerns aren't just about Greece. The five peripheral countries regarded as in trouble amount to double the outstanding debt for subprime.

"That could cause truly systematic losses at European banks," he said.

"The other big issue is do we turn the EFSF into a European TARP? That might initially be quite positive, but as the ramifications spread, people might get quite concerned about the dilution for shareholders."

Analysts at Credit Suisse wrote in a research note that "the sector remains expensive," and added: "We need to see structural improvement in funding markets to be more positive."

They agreed that potential losses are greater than during the sub-prime crisis.

The idea of a European version of TARP, the Troubled Asset Relief Program brought in by the US government during the last credit crisis, has gained credibility with the news that US Treasury Secretary Timothy Geithner will join European finance ministers at their summit Friday.

Worries Over Future of Euro

With the third anniversary of the collapse of Lehman Brothers, the problems affecting Western economies are still very current, as concerns about the future of the euro continue.

It emerged Thursday that a single UBS trader lost $2 billion in “unauthorized trading,” which has reignited the debate about whether banks have adequate safeguards.

"This is a UBS problem rather than a general reason to fail investment banks," said Peace.

Credit Agricole has struggled in recent weeks as fears about contagion from Greece's troubles affected French banks and Moody's downgraded its credit rating.

Frederic Oudea, the chief executive of French banking giant Societe Generale, defended his bank's record on CNBC after it was downgraded by Moody's.

Central banks around the world intervened to end a growing dollar liquidity crunch for European banks by offering three-month dollar loans on Thursday. The move was spearheaded by the European Central Bank effort, with the Federal Reserve, The Bank of England, The Bank of Japan and the Swiss National Bank.

"It's a very sensible move at a time when there's a lot of pressure on the banking funding system," Jens Larsen, Chief European Economist, RBC Capital Markets, told CNBC Friday.

"First and foremost, what it does is help markets start thinking they can price out some of the most extreme risks of a banking collapse in the near term.

"Liquidity doesn't solve the problems but the absence of liquidity creates a lot of problems so it's helpful that we can start putting to the side some of the concerns that have materialized in the last couple of weeks.

"This doesn’t mean that the problems in Greece have been solved," warned Paul Day, Chief Strategist, Market Securities.

Earlier in the week, the UK's Independent Commission on Banking recommended that UK banks should ring-fence their retail operations from riskier investment banking and increase their capital requirements beyond what is required by the Basel III directives.

Some high-profile bankers have grumbled at the move towards tighter regulation. Jamie Dimon, chief executive of JP Morgan Chase, called the Basel III regulations "anti-US."

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