Austrian bank Erste announced on Friday that it had drastically reduced its credit default swaps (CDS) portfolio and that it would close it by the end of the year, after valuing it based on what it would be worth in the market - known as marking to market - earlier in the month.
Before 2008, the bank, which focuses on retail operations in Central and Eastern Europe, had sold diversified CDS which it held at amortized cost as it considered them financial guarantees. Their total value was 5.2 billion euros ($7.3 billion) at the end of September.
On October 10, it announced that it changed the classification of this portfolio from amortized cost to market values as they were not considered financial guaranteesby the International Financial Reporting Standards.
The bank said this led to a one-off cumulative charge against shareholders' equity of 280 million euros for the years prior to 2011.
"Following our pre-announcement for the third quarter on 10 October, concerns were raised in relation to our CDS exposure," Erste Group CEO Andreas Treichl said in a statement.
"We have reacted to this and reduced our portfolio from 5.2 billion euros at the end of September to 0.3 billion yesterday, with no additional negative [profit and loss] effect," Treichl added.
The portfolio was reduced by novation – changing an old contract with a new one – with the consent of the counterparties or the contracts were simply closed, Bernhard Spalt, Erste Bank CFO, told analysts in a conference call.
"Este Group has the clear objective to run down the CDS portfolio by the end of 2011," the bank wrote in a presentation of its results on Friday.
Of the total CDS portfolio, 2.8 billion euros were related to sovereign exposures and 2.4 billion were related to financial institution exposures.
By region, the European Union had the biggest share of exposure, with 27 percent. Of the total portfolio, exposure to Greece, Ireland, Portugal, Spain and Italy was 14 percent and exposure to the Far East was 22 percent.
The bank is expected to post a net loss of between 700 million euros and 800 million euros this year because of extraordinary charges.
On October 18, the European Union agreed a ban on naked sovereign debt credit default swaps after criticism from some policymakers see as hedge fund bets on the euro zone crisis.